KEY022 | What Everybody Ought To Know About Registered Retirement Income Funds (RRIF)
1. 01 Intro
1.1. This is The Key To Retirement Episode 22.
2. 04 In This Edition
2.1. In this edition of The Key To Retirement, I'm going to talk about what everybody should know about registered retirement income funds.
3. 05 What's New?
3.1. Very excited to announce the launch of my new eBook "How To Choose And Work With A Financial Planner You Can Trust". It's a free download so go to our website at www.ironshield.ca and download your free copy.
4. 07 Feature Segment
4.1. Ahh, the elusive RRIF.
4.1.1. Or as I put it, the period of reconing
4.1.1.1. Simply put, it's the time when the Canada Revenue Agency gets their fair share.
4.2. There are so many misunderstandings about RRIF's it's not funny.
4.2.1. I was speaking with an accountant the other day and he said that when he was reviewing a new clients tax return from previous years, he noticed that the client was redeeming funds from their RRSP each and every year.
4.2.1.1. When asked why the client was doing this, they said: "Well, I'd rather get use of the money instead of letting CRA take it all when I turn 71."
4.2.1.2. "What do you mean?" asked the accountant.
4.2.1.3. "Well" said the client, "Doesn't CRA take whatever is left in your RRSP when you turn 71 and are forced to convert it to a RRIF?"
4.2.2. I have come across other people who say that they aren't looking forward to the huge tax hit that takes place when they turn 71 because they think that the entire amount in your RRSP is cashed in and included in their income that year.
4.3. The RRIF rules can be frustrating and hard to understand initially. But, my hope is that after listening to this episode, you'll have a much better grasp of not only the basic rules but also of some strategies to help make your utilization of your RRIF much more tax efficient for you during retirement.
4.3.1. So, let's get started.
4.4. First of all, what does the term RRIF stand for?
4.4.1. The first R stands for Registered.
4.4.1.1. So, what this means is that the plan is a registered plan with CRA and as a result, falls under specific legislation relating to all registered plans.
4.4.2. The second R stand for Retirement.
4.4.2.1. You guessed it, it is a plan to be used for your Retirement.
4.4.3. The letter I stands for Income.
4.4.3.1. Which makes sense since this plans purpose is to provide you with an income stream during your retirement.
4.4.4. The final letter, F, stands for Fund.
4.4.4.1. Now this one is a little confusing because the term Fund makes you think of one single fund or investment which couldn't be farther from what the reality is.
4.4.4.2. In my mind the F should be replaced with a P to represent the word Pool because you can put a lot of different funds into this particular pool.
4.4.5. So, the bottom line is the term RRIF stands for Registered Retirement Income Fund.
4.5. Why was the RRIF created?
4.5.1. The RRIF was created to designate a pool of capital that had very specific attributes from a tax perspective.
4.5.1.1. Attribute #1
4.5.1.1.1. Any earnings within the account are tax-sheltered - meaning that you don't pay tax on the earnings when they are realized but remain in the plan.
4.5.1.2. Attribute #2
4.5.1.2.1. Each year, there is a specified minimum amount of money that must be withdrawn from the account (whether you need the money or not).
4.5.1.2.2. This amount is based on a formula
4.5.1.2.3. So, here is how it works in the initial transition year.
4.5.1.2.4. The rules state that you must convert your RRSP to a RRIF by December 31st of the year you turn 71.
4.5.1.2.5. On December 31st of the year you turn 71, the value of the plan is recorded.
4.5.1.2.6. Then, by the end of the next year (the year you turn 72, you must take out a certain percentage of the account based on the RRIF Table.
4.5.1.2.7. Then, in the next year, the percentage you need to take out increases slightly, thus forcing more and more out of the plan each year - whether you need the funds or not.
4.5.1.2.8. As you can see, as you get older, you must redeem more and more in terms of percentage of the market value at the end of each year.
4.5.1.2.9. So, if you're investments aren't earning this minimum withdrawal, you will see your account value decrease each year.
4.5.1.2.10. When you hit 90, you must take 20% out each and every year.
4.5.1.3. Attribute #3
4.5.1.3.1. In the year of your death, you must include the balance of the account in income when determining your final tax bill.
4.5.2. And that in essence is what a Registered Retirement Income Fund is.
4.5.2.1. It's a pool of tax-sheltered capital earmarked to pay you an income during your retirement.
4.6. So, what are some of the most common problems when it comes to RRIF's?
4.6.1. RRIF income is completely inefficient.
4.6.1.1. $1 of RRIF income is $1 of taxable income.
4.6.1.2. So, if this is the case, why contribute to a registered plan?
4.6.1.2.1. If you follow this rule, you can determine if contributing to a Registered Plan is appropriate for you.
4.6.2. The investment responsibility is solely on your shoulders.
4.6.2.1. Don't take this lightly.
4.6.2.2. If you don't know what you are doing, hire someone to help you.
4.6.2.2.1. It's cheaper to pay 1-2% to have someone protect you from a potential loss of a lot more.
4.6.2.2.2. Now, don't get me wrong. I'm not saying that hiring an investment advisor is going to protect you from a loss. What I'm saying is that having someone who can hold your hand in making the right decisions during the tough times is priceless.
4.6.3. A lot of RRIF owners don't properly allocate their financial affairs for optimum tax efficiency.
4.6.3.1. But, didn't I just tell you that a RRIF was a tax-sheltered plan?
4.6.3.1.1. Yes, but a lot of people have more than just a RRIF.
4.6.3.1.2. Lot's of people have money that they couldn't put into a registered plan and were forced to invest these funds in a non-registered - taxable environment.
4.7. Strategies:
4.7.1. 1. In the year you turn 71, make an extra deposit to your RRSP in December (just before you convert the plan to a RRIF) so you can get an extra tax deduction to offset against future tax years.
4.7.1.1. If you were working in your 71st year, you generated RRSP contribution room that should be available to you when you're 72. But, since you're now 72, you can't make any further contributions to an RRSP.
4.7.1.2. But, if you follow this strategy, you will be able to carry forward the excess contribution to a future year as a tax deduction because you made the contribution when you were allowed to.
4.7.1.3. You may have to pay a 1% penalty for the any potential over-contribution you made to your RRSP in December of that year but that penalty pales in comparison to the offsetting deduction you can obtain the next year.
4.7.2. 2. If you have a younger spouse, when you convert your RRSP to a RRIF, elect to have the minimum withdrawal calculation based on your younger spouses age.
4.7.2.1. If your spouse is 65 when you turn 71 and you elect to have the calculation based on your younger spouses age, you would only be required to take out 4% in that first year.
4.7.3. 3. Ensure you make a beneficiary election on the plan.
4.7.3.1. Too often people think that the beneficiary election made on your RRSP carries over to the RRIF. Not so. The courts have cases where this has happened and they have held firm to honouring the paperwork. If the paperwork leaves this out, then the assets are left to the deceased owners estate and probate (or should I say Estate Administration Fees) will apply - needlessly.
4.7.4. 4. Be very cautions of RRIF Melt-Down Strategies.
4.7.4.1. These strategies which endeavour to offset the RRIF income with other manufactured tax-deductions need to be scrutinized with a fine tooth comb. Just be cautious.