Decisions, decisions

It’s that time of the year again - tax time. You may be thinking about making an Registered Retirement Savings Plan (RRSP) contribution to lower your tax bill. But what if you need easy access to that money? Maybe contributing to a Tax-Free Savings Account (TFSA) would be better. Is your spouse in a different tax bracket? Do you think you might need to use the Home Buyers' Plan (HBP) for a down payment on a house next year? Are you playing the long game and looking for tax strategies for withdrawing income in retirement? These are all important questions - that’s why we have looked into them, and more. 

If I want to start saving, an RRSP account is way better, right?

The best way to save for retirement really depends on your overall situation. Are you in a higher tax bracket now than you will be when you plan to retire? This tends to be the case for many people, and they may want to take advantage of the tax savings an RRSP offers. But for people with lower incomes who may see higher income in retirement, the taxable withdrawals from an RRSP can mean they’ll pay more tax in retirement than in their earning years. 

With a TFSA, there's no tax deduction on any contributions to the account, since it's funded with after tax income. You can withdraw the funds at any time, tax free. The bonus with a TFSA is that growth on investments, including interest, dividends, and capital gains, are not subject to tax. Plus, withdrawals from a TFSA won’t count against income tested benefits such as Old Age Security. 

Consider your situation before you make that RRSP contribution. Better yet, ask your advisor your tax planning questions - they can guide you in the right direction. 

I’m married – do I have special tax savings options available?

If your spouse is in a lower income tax bracket, you can set up and make contributions to a spousal RRSP - a great opportunity for income-splitting at any age! Any contributions you make to a spousal RRSP are based on your contribution limit. However, it’s also important to note that your spouse is the legal owner of the plan and makes all of the investment decisions and withdrawals. 

Under current pension income-splitting rules, you generally need to be at least 65 years of age before you can share up to 50 per cent of your income with your spouse. With a spousal RRSP however, you can decide on the amount of income to split by deciding how much to contribute to the spousal RRSP. Here’s an example of how it works:

Income splitting using a spousal RRSP makes sense for individuals whose spouse’s earnings are in a lower income tax bracket and want the flexibility to split income at any age (subject to attribution rules) and the ability to decide how much to split.

I’m planning to buy a house – can I use my RRSP?

Yes you can, (but you may not want to). You can access up to $35,000 from your RRSP under the HBP and the issuer will not withhold tax as per a normal RRSP withdrawal. What’s important to remember is that while these funds are not taxed, it's also not really a withdrawal. Think of it more like a loan. In order for these funds to maintain a tax-free status, you must repay this loan over the next 15 years. It's also important to remember that repayments into the RRSP aren't deductible and therefore don't reduce your tax bill for the year. So, it may be wise to only make the minimum annual HBP repayment, and claim the tax deduction on any additional deposits into the RRSP for a calendar year.

A TFSA on the other hand, may be a more suitable option for saving up the money you will use for a down payment, since there’s no added pressure of paying back a loan (as explained above in the RRSP scenario). Savings also compound tax-free inside a TFSA and can be withdrawn at any time in order to buy the home. The downside is that the contributions do not reduce your overall tax bill, so it may take longer to hit those saving goals. The opportunity to invest the potential refund from an RRSP contribution into a TFSA to increase the total amount saved is also missed.

But what if there was another option that was the best of both worlds?

The Tax-Free First Home Savings Account (FHSA) is a new registered account that came into effect on April 1, 2023. You're able to contribute up to $40,000 over your lifetime and up to $8,000 in the year you open your first FHSA. Just like an RRSP, all contributions up to the annual contribution amount are tax deductible and, just like a TFSA, qualified withdrawals are tax-free. So, it appears that the FHSA may offer the best of both worlds for first-time homebuyers, (which you must be to take advantage of this program). Keep in mind that you can use a combination of the FSHA and HBP to buy your first home, but the HBP has to be repaid over time, so it might make more sense to start with the FHSA if owning a home is your goal.

But what if you change course and decide not to buy that house? Unused contributions can be transferred into an RRSP account and used for retirement savings.

I plan to be quite wealthy by the time I retire and may have significant assets in non-registered accounts – what do I need to be aware of from a tax point of view?

Tax and estate plans vary from person to person. Some retirees can benefit from pension income splitting with a spouse in a lower tax bracket. Series T mutual funds can offer a steady stream of income that is paid out as tax efficient return of capital (ROC) and also has benefits associated with charitable giving. Corporate class mutual funds may also be a good way of reclassifying interest income into tax efficient capital gains.

The options for building wealth and saving on taxes are endless. A major part of the solution is to seek professional advice for your personal situation. Your advisor can work with you to help meet your long-term goals.