For decades now, registered investments have been the number one way for Canadians to save for retirement. And, no question, RRSPs and pension plans offer a lot of great benefits. Immediate tax deductions, tax-sheltered growth and gradual withdrawals are all crucial aspects of a successful financial plan. However, these popular investment vehicles are not perfect. Far from it, in fact.
It is all well and good to have your investment income sheltered during the growth years, but what about when it comes time to start withdrawing? Well, that’s where things can get a little tricky.
When you make a withdrawal from a registered account, the entire amount is taxable that year. And when you reach age 71, you are required to begin making withdrawals whether you need the cash or not. This can lead to some nasty tax bills. Seniors, in particular, can find themselves facing significant pension and benefit clawbacks. Not ideal. And, most people have no idea the size of the tax bill their estate will face if they continue to hold all of their assets in registered accounts.
Therefore, taking steps to ensure your retirement income is as tax-efficient as possible can significantly increase both your annual income and the ultimate value of your estate when you pass away. With this in mind, we set ourselves to creating a method for clients to convert their fully taxable registered assets to more tax-friendly alternatives, reducing their tax liability and increasing their overall net worth.
Our TFSA Maximizer Strategy
In 2009, CRA introduced Tax-Free Savings Accounts as an alternative to traditional RRSPs. The concept behind them is that, similar to RRSPs, all investment growth within a TFSA is sheltered from taxation. However, unlike RRSPs, contributions to a TFSA are not deductible for tax purposes and there is no tax to pay on withdrawals down the road. This provided Canadians with an incredible financial planning tool.
Unfortunately, TFSA contributions are restricted to just $6,000 per year (indexed), limiting their usefulness for wealthy investors. However, this is where the TFSA Maximizer Strategy comes into play. We have devised a method that allows you to essentially transfer your registered investments into your TFSA over time so that when the time comes to start drawing from your savings you will be able to do so completely tax-free, increasing your net withdrawals and avoiding any clawbacks or loss of senior’s benefits.
How It Works
In very basic terms, we borrow against the equity you have in assets outside your TFSA to create loans that allow us to eventually transfer these assets into your TFSA. These assets can be regular investments or even property, such as a home or cottage. Not only does this conversion mean you will pay far less tax in retirement and in your estate, but you will also continue to benefit from the immediate tax deductions on contributions to your pension or RRSP.
Now, as you might expect, finding a way around all these long-established CRA tax pitfalls can be a bit complicated.However, we handle these TFSA Maximizer Strategies on a daily basis and have streamlined the process to ensure it is as simple as possible.
In basic terms,this is how the process works:
1. Liquidate the investments held within both your RRSP and TFSA to cash. This takes place entirely within the accounts and does not involve any withdrawals, taxable or otherwise.
2. We set up a Mortgage Investment Corporation (MIC). Your RRSP and TFSA are each named as shareholders, holding different classes of shares which pay different distribution amounts.
3. All of the cash from step one is now lent out to you to be invested personally in non-registered investments. This can then be re-invested in exactly the same holdings as before or put into something entirely different.
4. We calculate the interest payments required by the MIC based on the established distribution rates. Then we make RRIF withdrawals in the exact amount needed to cover these “mortgage” payments – typically 3% back to the RRIF and 15% to the TFSA.
Why It Works
Because these payments are classified as interest payments on the outstanding loan, they qualify as income earned within the RRIF and TFSA. This means they are tax-sheltered just like any normal investment income earned within these accounts.
Your registered investments ultimately end up moving into your TFSA – providing tax-free withdrawals – because of the large difference in distribution rates. This is clearly justified and completely legal based on the TFSA shares being classified as “second position” holdings. Which means that, in the case of a loan default, the RRSP would receive its outstanding assets first, and the TFSA would only receive the leftovers. Of course, you are obviously not about to default on a loan to yourself, so that scenario is merely hypothetical. Nonetheless, legally it justifies the difference in interest rates.
And, for those concerned about how CRA will view this strategy, well, every Mortgage Investment Corporation created within an RRSP, RRIF or pension account must be registered with them, guaranteeing their approval before implementation. So, no worries on that front. The main restriction is that this approach is only available to “accredited investors,” those with $1 million of investable assets, or $200,000 earned personal income, or $300,000 earned family income.
If you meet one of these criteria and have a substantial amount of registered investments threatening to create a major tax problem in the future, you should get in touch with us and we can analyze your situation to see if the TFSA Maximizer Strategy is a good fit.
Any views or opinions expressed on this website are solely those of the representative, and do not necessarily represent those of Gravitas Securities Inc. (GSI). The information contained herein was obtained from sources believed to be reliable, however, the accuracy is not guaranteed. This site is not deemed to be used as a solicitation in a jurisdiction where this representative is not registered.
Todd McLay is currently licensed in: British Columbia, Alberta, Saskatchewan, Manitoba and Ontario. Todd Bergstresser is currently licensed in Saskatchewan, Alberta British Comlumbia. Mike McKague is currently licensed in Saskatchewan.
GSI advisors are currently licensed to sell equity securities, bonds, mutual funds, GICs and other securities that are subject to available regulatory exemptions. Your advisor may also offer insurance-related products and/or financial planning services. These services are not offered through Gravitas Securities Inc., however, your advisor is duly registered to provide these services under applicable insurance legislation and the dealer approves such activity to be conducted outside of the dealer.
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