Withdrawals choices can mitigate taxes

Pierre Lafontaine, Director of Advanced Financial and Tax Solutions at iA Financial Group, points out that not all withdrawn investments will be taxed in the same way. "Cashing in investments with lower taxes is key to inscreasing retirement income," he said last year, in the October issue of the Insurance Journal (page 12).

He then used the example of a household with an average tax rate of 25% needing an additional income of $15,000 for a year. "Withdrawing this amount from a Tax-Free Savings Account (TFSA) incurs no taxation. In contrast, the same household would need to withdraw $20,000 from their Registered Retirement Savings Plan (RRSP) to have $15,000 net. That's $5,000 lost to taxes," he explained. 

His comments are still relevant today. Moreover, this year, Pierre Lafontaine proposes an updated version of the ideal disbursement sequence table published in last year's Insurance Journal. Here is this enriched table, which includes new withdrawal vehicles and the three basic rules in optimizing retirement income. 

There are some new features in the disbursement sequence. Among them is the role of the Tax-Free Savings Account for the purchase of a first home (FHSA) when withdrawals from this account are not aimed at buying a dwelling. The FHSA allows future first-time home buyers to save an amount of $40,000, subject to an annual contribution ceiling of $8,000. Withdrawals from the FHSA are not taxable and do not have to be repaid. 

However, the FHSA ceases to exist 15 years after its opening or when the individual reaches the age of 71, as reminded on the Government of Canada's website. Savings not used to buy a qualifying home can then be transferred to an RRSP or a Registered Retirement Income Fund (RRIF) without tax. Otherwise, it can be withdrawn in a taxable manner. 

The new Advanced Age Deferred Life Annuity (AADLA) also makes its appearance in the sequence proposed by Pierre Lafontaine. This annuity is constituted from registered funds, and the annuitant does not have to draw an income from it before age 71. They can defer the start of their payments until age 85. An individual can use up to 25% of their registered funds to purchase an AADLA, without exceeding the cap of $160,000. 

The prescribed annuity, which is lightly taxed, is so named when it is eligible for this privileged tax treatment by the Canada Revenue Agency (CRA). Most insurers' annuities qualify. The CRA will consider the income from a prescribed annuity as a combination of interest and capital. Only the interest portion of each annuity payment received by the annuitant will be taxable. The taxation is uniform, meaning that the taxable amount is distributed equally over the life of the annuitant.