Softening the tax blow
In this world, nothing can said to be certain, except death and taxes,” wrote Benjamin Franklin in 1789. The Canada Revenue Agency has gone old Ben one better – even after you’re no longer in this world, they’ve found a way to keep taxing you and, for most people, the RRSP or RRIF is the prime target.
When you pass on, the law says that all the money in your registered plans must be taken into income when your executor prepares your last tax return. Depending on the size of the account and your province of residence, your estate may have to pay almost half of those savings to the government (the top marginal rate in Canada is about 49 per cent).
That’s a huge hit. But there are some ways to soften the financial blow.
Start by making your spouse or common-law partner (including same-sex partners) the sole beneficiary of your RRSP. This is simple and only requires completing the appropriate form at the financial institution that holds the plan. (The rules for RRIFs are slightly different, as I’ll explain below.)
If your spouse or partner is the plan’s sole beneficiary (it’s essential there are no co-beneficiaries to muddy the waters), the RRSP asse can pass directly to him or her untaxed, provided one additional step is taken. The spouse/partner must instruct the issuer to transfer all the RRSP property to another registered plan or to buy an annuity before Dec. 31 of the year after death. So, in the case of a person who died in 2005, this must be done by the end of 2006.
The beneficiary rule also applies to RRIFs, but here you have another option: designate the spouse/partner as the “successor annuitant” instead of the beneficiary. In this case, the original RRIF stays in place with the spouse/ partner as the new annuitant. This means that all future payments from the RRIF will go to the successor annuitant as if it had been that person’s own plan from the beginning. The income received will be taxed in the usual way.
This approach allows the assets within the RRIF to remain intact, thus eliminating the possibility of a forced sale at what may be an inopportune time.
Unfortunately, many people don’t take the time required to complete the required forms with the result that the assets of an RRSP or RRIF go to the estate, which means they are exposed to tax. But there are still some escape hatches. In the case of a RRIF, if the spouse/partner is not named as the successor annuitant, he or she can still be considered as such if the deceased’s legal representative and the RRIF carrier agree.
If a surviving spouse/partner has not been designated as the plan beneficiary and the assets have gone to the estate, a “refund of premiums” to the full value of the RRSP/RRIF can be paid to that person from the estate tax-free. For this to work, the recipient must be a beneficiary of the estate, and the CRA’s form T2019 must be completed.
But suppose there is no surviving spouse or partner? There are still some options available but they only apply in specific situations. Besides a spouse/ partner, a qualified beneficiary can include a financially dependent child or grandchild. If the dependency is due to a physical or mental infirmity, the money can be transferred into another RRSP or RRIF or used to purchase an annuity. If this is not the case, the money from the deceased’s plan must be used to buy an annuity that cannot be for a term longer than 18 years minus the age of the beneficiary. So if the child or grandchild is 14, the annuity must be paid out in four years. The transfer must be completed no later than 60 days after the end of the year in which the refund of premiums is received.
This may all seem complex, but it’s really not. A couple should take the steps needed to make each other the sole beneficiary of their respective RRSPs or the successor annuitant of each other’s RRIF. A 15-minute appointment at the financial institution that holds the plans should do the trick.
You can’t avoid the tax people, but you can put them off for a time, perhaps for years, by making the right moves. The longer the delay, the more money is likely to be withdrawn from the registered plan at lower tax rates, reducing the amount hit with the highest marginal rate when the last survivor dies.
Opinions expressed are those of the writer and should not be understood as offering advice. Information is of a general nature and may not be appropriate for any single individual.