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What You Should Know About Taxes on Retirement Income

Apr 8, 2022 | Finances, Taxes

The rules around taxes can be confusing. Knowing how much to pay, when to pay, and how to make deductions can feel overwhelming, which is why most people seek out expert help when it’s time to file taxes. If you live in Canada and are employed, you probably know you are paying a portion of your earnings as income tax to the government, but what about during retirement? A poll in 2019 found that 89% of Canadians did not fully understand how retirement income is taxed, and nearly 20% believed that the Canadian Pension Plan (CPP) was a tax-free benefit. Since most retirement income is still considered taxable, it pays to know in advance which of your income streams will be taxed and create a strategy to pay those taxes.

How Pension Income Works

Income during retirement is still income and, in most cases, is considered taxable. The most common types of taxable pension income in Canada include:

  • Old Age Security (OAS) pension
  • Canada Pension Plan (CPP) or Québec Pension Plan (QPP) benefits
  • Retiring allowance
  • Other pensions (from an employer)
  • Registered Retirement Savings Plan (RRSP) income
  • Annuity payments
  • Pooled Registered Pension Plan (PRPP) payments
  • Retroactive lump-sum payments
  • Other kinds of income
  • Registered Retirement Income Fund (RRIF)

The government automatically taxes both government-issued pensions and private pensions. If you continue to work during your early retirement, your income tax will also be automatically deducted.

For other sources of retirement income, such as investments, rentals, and self-employment income, you will be required to pay the appropriate tax on those amounts. Rather than waiting to receive a shocking bill each year, you could benefit from paying your income tax by instalments, helping to break up the amount of money you owe into more manageable portions.

How to Plan Your Taxes in Retirement

Retirees should be aware of how much income they will be claiming on their annual return. Because each income is automatically taxed, combining revenue streams can put you into the next tax bracket, which will result in taxes owing unless you take steps to pay more taxes during the year.

There is a limiting threshold to receive the Old Age Security pension (OAS). If the amount of income you claim exceeds the yearly threshold, you may have to repay some or all of your OAS pension from that year. You may also see a reduction in OAS payments in the future as the Canada Revenue Agency deducts the amount you owe from future benefits. This scenario can significantly impact your retirement income planning, yet it is entirely preventable with a bit of strategic planning. At Regan Schiller & Associates, we can assist you in creating a plan for income tax payments and creating strategies to reduce the overall amount of tax you owe.

Tax Strategies for Retirees

There are different strategies to pursue in your retirement to help you keep as much of your hard-earned money in your accounts as possible. Some clients come to us thinking that the best strategy is to avoid paying taxes as much as possible, and while this may sound appealing, it can cause painful tax bills later in retirement. If you start by using up your funds from a TFSA account to avoid paying taxes, later on, when you need to withdraw from your RRSP or RRIF, you will be required to pay a more considerable sum of taxes than if you had removed fewer funds from each account at the same time. This withdrawal from different funds on a rotation is called a mixed approach and is one of the more stable options to help you manage your taxes throughout your retirement.

Balancing Your Tax Payments in Retirement

Many Canadians have a rough idea of what a Registered Retirement Savings Plan (RRSP) is, but not everyone realizes that withdrawals from these accounts are taxable. Your RRSP is a deferred tax account, meaning when you made contributions, you did not have to pay the tax on those amounts. Instead, the government defers your tax owing until you make withdrawals. As you remove funds from your RRSP, the government automatically withholds the corresponding tax amounts. If you’ve reached the age of 71 and have transferred your money into a RRIF account, then you’ll be automatically taxed as you withdraw from there.

If you’re making an income during your retirement from self-employment, investments, or rental gains, you can set up instalment payments to prevent a large bill in the spring each year. Our financial advisors can assist with that.

Questions to Ask a Wealth Management Advisor

While no one enjoys paying taxes, it’s important to keep in mind our tax contributions contribute to the very benefits Canadians enjoy during retirement. And, while some new retirees feel an aversion to paying taxes on their retirement income, avoiding them all together usually leads to financial pains down the road. There are other ways to minimize your tax burden so you can enjoy your retirement funds for longer.

Our Private Wealth Management Consultants are experienced in retirement financial planning and know the right questions to ask to ensure you have a tax management strategy in place. We’ll review your retirement accounts, discuss your retirement goals, and find solutions that work for you.

Focusing on Cash Flow Planning

One helpful way to look at your finances during retirement is to focus on cash flow planning. Remember how much money you can draw upon from your various retirement accounts while balancing the number of funds you need to live comfortably. Next, calculate the amount you will be required to pay in taxes, based on withdrawals from taxable accounts. This process may sound complicated, but with expert advice and the right financial planning tools, you can create a personalized plan for your retirement cash flow.

Retirement Financial Planning in Edmonton

The Private Wealth advisors at Regan Schiller & Associates want to see you succeed. It’s our goal to help you make your retirement dreams a reality, whether you are already retired, soon to retire, or even if retirement is many years away. Please get in touch if you’re ready to create a strategic financial plan that works for you.
This is a general source of information only. It is not intended to provide personalized tax, legal or investment advice, and is not intended as a solicitation to purchase securities. Regan Schiller is solely responsible for its content. For more information on this topic or any other financial matter, please contact an IG Wealth Management Consultant.

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