We all want to ensure our loved ones are well cared for when we’re gone, and as such, estate planning is an important part of a proper financial plan. Understanding how taxation ultimately applies to your RRSPs, RRIFs, and TFSAs in the event that something happens to us can help maximize the benefits that our heirs receive.
RRSPs / RRIFs
The first thing to remember with respect to RRSPs and RRIFs is that all withdrawals from these accounts are fully taxable at the time of withdrawal. Accordingly, the major advantage of these accounts is not that they are tax-free, but rather, that they are tax-deferred. In the absence of proactive financial planning, an RRSP or RRIF will be fully taxable on the date their holder passes away.
As such, any means to keep these accounts intact, prolonging that tax deferral, can be beneficial. The only caveat and/or exception to that would be the consideration of one’s future marginal tax rate – we typically don’t want to defer RRSP/RRIF withdrawals to a year when our tax rate is substantially higher.
A great way to preserve the tax deferral inherent in these accounts is to name a qualified beneficiary. Such individuals can inherit an RRSP or RRIF in a tax-deferred manner, meaning the original holder wouldn’t be subject to tax on their remaining balance should he or she pass away. Qualified beneficiaries include spouses, common-law partners, and financially dependent children (either minors, or adult children who are dependent due to a disability). Consider naming one of these individuals as the beneficiary of your RRSP or RRIF – assuming that aligns with the desired settlement of your estate.
Another thing to be cognizant of is the difference between naming a ‘beneficiary’ versus a ‘successor holder’ or ‘successor annuitant’. The key difference here is that a beneficiary would inherit your account by receiving the contents into their own RRSP. A successor holder/annuitant would inherit the contents as they are, meaning they could preserve the original holder’s scheduled RRIF payments. One possible benefit in doing so could be to keep RRIF payments (and the corresponding tax) low, assuming the deceased is younger or has a lower required RRIF withdrawal than the recipient. In both cases, the tax-deferred nature of the account would be preserved, assuming the account is left to a qualifying individual (see above). The only difference would stem from the subsequent payouts, as one’s RRIF minimum could be quite different.
TFSAs have become a wonderful savings tool. Unlike RRSPs, TFSAs are not tax deferred; rather, they are completely tax free. That includes any principal, income (from Canadian sources), capital gains, and/or any unrealized growth. Income generated from foreign investments may be subject to withholding taxes. Once again, maintaining these accounts, and their tax-free status, for as long as possible is ideal. A great way to do this is to name your spouse or common-law partner as your TFSA’s successor holder. Doing so would allow them to keep the TFSA, or roll it into their own TFSA should you pass away before them.
The above noted advice only makes sense if it aligns with your overall estate plan. In other words, only name the above-noted individuals as beneficiaries and/or successor holders if that is the intended destination for your money. As long as that is the case, better to preserve and defer.
If you would like to ensure that you are properly transitioning your registered accounts into the hands of your estate beneficiaries, contact a financial planner today.
Personable and professional, Brent Soucie specializes in cross-border tax and financial planning for U.S. citizens and/or Green Card holders residing in Canada, as well as Canadian residents with U.S. employment and/or property. His clients include professional athletes, entrepreneurs, and corporate executives.