RRIF reductions a Catch-22

All the tumult and fury on Parliament Hill produced the kind of high drama we rarely see in this country. I don’t usually comment on political matters unless they affect investment decisions so I won’t add to the hundreds of thousands of words that have already been written about this historic showdown.

However, I can give you the answer to a question that several readers asked via e-mail after the storm broke. Yes, the reduced RRIF withdrawals for 2008 that were announced in the Economic Statement that triggered the crisis will stand, at least in theory. In practice, it may be another matter.

On the afternoon of Friday, Dec. 5, I received a confirming phone call from a spokesman for the Department of Finance advising me that a one-time 25 per cent reduction in the minimum amount required to be taken out of RRIFs, LIFs, and LRIFs will be honoured by the Canada Revenue Agency (CRA), even though no enabling legislation has been passed and conceivably might never be. Financial institutions should have been officially advised by now.

This is consistent with past practice relating to tax announcements. Historically, the CRA applies all tax changes as soon as they are announced (or at a later date if the Finance Minister so specifies) even though the enabling legislation may not actually receive Royal Assent until months later.

But this time could have been different. On Nov. 28, the day after Finance Minister Jim Flaherty unveiled his Economic Statement, a notion of ways and means was tabled in the House of Commons to implement the tax measures announced in his speech, including the RRIF plan.

However, the formation of the Liberal-NDP coalition with Bloc support raised serious questions about whether the tax proposals in the Economic Statement would stand if a new government took over.

Retirees, many of whom make only one annual withdrawal at year-end, were left in a quandary. RRIF administrators wouldn’t accept instructions to reduce the December payments without authorization from the CRA so for a while everything was in limbo.

So I asked the CRA to clarify the situation so that people would know how to proceed. On Friday, the word came back to me from Finance: go ahead.

So here’s what you need to know. If you wish (no obligation) you can withdraw only 75 per cent of the total you would normally be required to take out of a retirement income fund in 2008. So if you receive equal quarterly payments from your plan, you can instruct the administrator to withhold the December payout since you’ve already taken out as much as is legally required this year. If you receive one year-end payment only, you can scale it back 25 per cent.

For example, a person who was 72 last Jan. 1 must withdraw 7.48 per cent of the plan’s value on that date. So for a $100,000 RRIF, the normal basic withdrawal in 2008 is $7,480, which is taxed at your marginal rate. Under the Flaherty plan, that person now only must take out 5.61 per cent of the RRIF’s value this year, or $5,610.

Even if you need the money, you should consider deferring any withdrawal that exceeds the reduced minimum until early 2009. If your marginal tax rate exceeds the withholding tax applied to the RRIF withdrawal, you’ll have the use of the extra money until you file your 2009 tax return in spring, 2010.

But here’s the catch. Even though the Department of Finance has confirmed that the 25 per cent reduction can proceed, many financial institutions say they can’t implement it because of the complex computer programming changes that are needed. CIBC Wood Gundy has sent a notice to its brokers to this effect and RBC Dominion Securities is in the same boat. One person I spoke to said they would not be able to have the change in place until 2009. The obvious problem with that is the fact the reduction applies only to the 2008 tax year. That leaves everyone in Catch-22 situation: the government says you can reduce your withdrawals but the computers won’t let you.

This means the last-minute break may be worthless to most people. Yes, we’re allowed to repay 25 per cent of the 2008 withdrawal to the RRIF by sometime in 2009 (the actual date is vague because it depends on the date the legislation is approved). But since the withdrawal has already had tax deducted from it and may in fact have been spent, repayment is not likely to be a popular choice.

The end result is a temporary relief program that is turning out to be worthless. Mr. Flaherty should revisit the whole idea when he tables his budget in January and do two things: extend the reduction to the end of 2009 and add a carry-forward provision for any 2008 reductions that could not be used.

Gordon Pape’s new book is Tax-Free Savings Accounts: A Guide to TFSAs and How They Can Make You Rich. Reserve your copy here.

Photo ©iStockphoto.com/ Lisa F. Young