Taxes are one of the things that deplete income and capital before, in, and after retirement. Thus, it is essential to have a tax-efficient retirement plan because taxes can significantly impact retirement income.
Nonetheless, a tax-efficient retirement plan may be sacrificed depending on a retiree’s family values and goals. Thus, the tax-efficient retirement plan and its moving parts are dependent on the retiree’s values and what is most important to them. What may make sense from a tax-saving perspective may not make sense to the retiree because it does not align with their goals, and this is something to always remember as the retiree plans for their tax-efficient retirement.
Taxes will affect retirement in three critical instances: when an individual receives income, clawback of benefits, and withdrawals and disposition of assets.
When an individual receives income
As with pre-retirement, all income earned in retirement will be subject to taxation. The difference, however, is that where most individuals have one source of income before retirement, after retirement, they are looking at receiving income from several different sources. These sources include and are not limited to Canada Pension Plan (CPP), Old Age Security (OAS), Guaranteed Income Supplement (GIS) & allowance, private pension income, Foreign Pension Income, non-registered funds, interest income, dividend income, and Registered Retired Savings Plan (RRSP). With the potential of so many different income sources, no wonder so many people have challenges building a tax-efficient retirement income, given all the moving parts.
Clawback of benefits
Another way taxes can affect retirement income is the clawback of government benefits. Any clawback a taxpayer is subject to is considered an additional tax. In retirement, once a family’s net income reaches a certain threshold, a retiree may find that their income is reduced or that they lose tax credits. Some of the benefits that may be clawed back are GST/HST credit, OAS, age amount tax credit, or GIS/HST credit. Because of this, every person should have a plan for potential clawbacks when planning for retirement income because they may significantly affect how much they receive annually.
Disposition (withdrawal) of assets
When there is a transfer or withdrawal of assets in retirement, this is considered a disposition. This disposition, in many cases, will trigger taxation. Additionally, all assets are disposed of at death for tax purposes, potentially leading to a taxable event. Depending on the amount of the assets, it could be a significant taxable event. Thus, it is important to have a tax-efficient retirement plan that also considers how your plan assets will be disposed of at death.
Ultimately, having a tax-efficient retirement planning strategy will mean that a retiree has more assets to ensure enough income to last throughout their retirement. Furthermore, it is essential to plan for a tax-efficient legacy to follow a tax-efficient retirement. A tax-efficient legacy plan will mean the assets a retiree has gathered throughout their life will be transferred to the next generation on a tax-efficient basis. Planning a tax-efficient financial legacy plan should be done with the family and the multiple advisors (lawyers, accountants, etc..) whose input would be needed.
