Q: I am 71 and will have to convert $120,000 RRSP to a RIF by December of this year. I’m currently working and making $100,000 a year plus getting my CPP/OAS at $1,690 a month. Would it be worth it to borrow $60,000 and put it in the RRSP over the next three years at $20,000 per year—I have $200,000 contribution room—to reduce OAS clawback and provide reduced tax load and larger returns which would pay off most of the loan? Please let me know if this strategy sounds viable.
A: Martin, financial planning is an enlightening exercise at any age. Sooner is usually better. Later is still good. Age 71 is perhaps the most unfortunate age as there are usually RRSP efficiencies that could have been implemented in the previous years. I’ll explain.
Contributing to an RRSP defers tax to later years. You will eventually pay tax on every one of these deferred dollars. The expectation is that when retired, your taxable income will be lower than in your working years, so your tax rate will be less, and you consequently pay less tax.
When its time to start drawing funds from your RRSP/RRIF the amount is fully taxable income (from those deferrals). A good strategy is to spread these withdrawals over as many years as possible so that you pay the least amount of tax in each taxation year.
These two strategies tend to conflict with one another when a person earns income in their late 60s. The challenge is to determine the optimal time to stop the contributions and start the withdrawals along with how much to contribute. At the end of the year of reaching age 71, this choice comes to an end and you may be paying more tax than might have been the case.
At age 71, Martin finds himself parked at the end of this government-imposed RRSP contribution window. December of this year is the latest the financial institution must convert Martin’s RRSP to a RRIF. After that, Martin will be required to start withdrawing at a minimum prescribed rate.
Martin can only make additional RRSP contributions for the 2018 taxation year. The optimal action is to level out Martin’s taxable income from 2018 on and, ideally, below the OAS clawback threshold of $75,910 (2018). This is accomplished by modeling Martin’s desired lifestyle and income through to the end of life. The outcome would spread Martin’s wealth over his retirement years and would include how much taxable income will be attributed to Martin each year.
These are a series of tax outcomes at age 71 depending on Martin’s situation
|Year||Taxable Income||RRSP contribution||Net Taxable||OAS Clawback?||Effective Tax Rate (Ont.)|
|Year||Resulting Taxable Income including Income from RRIF||OAS Clawback?||Effective Tax Rate (Ont.)|
|2019 and on||$85,000||Partial||27%|
|2019 and on||$75,000||No||24%|
|2019 and on||$55,000||No||18%|
|2019 and on||$40,000||No||11%|
The amount of $50,000 would be the optimal RRSP contribution in 2018 if Martin expects his taxable income to level out at $40,000 during retirement. The fact that Martin will not use up his RRSP contribution room is unfortunate. There is no further opportunity for tax deferral.
Martin should borrow the $50,000 to ensure the contribution happens by December.
Contributing to a spousal RRSP is not beneficial. Martin can split his RRIF income with his spouse to lower taxable income.
Planning your finances is best approached over many years to help stay true to your targets, balance the present with the future and mitigate the amount of tax you pay. Reach out for help even before you think you need it.
MORE FROM A RETIREMENT EXPERT:
- Are RRSP contributions worth it at age 70?
- Can you receive CPP benefits from two partners?
- The right way to unwind your locked-in retirement account
- When an RRSP isn’t worth it