Adjusting RRIFs and RRSPs to the New Reality

Let's say a few years ago you figured your savings could support your retirement and you decided to opt for early retirement. A new reality unexpectedly descended last autumn when markets crashed, decimating all portfolios, even prudently balanced ones. As a result, you and many others, according to BMO Retirement Institute's Boomers Revise Their Retire-By Date as Financial Landscape Changes, have opted either to delay retirement or reverse course, to begin working again to generate savings to rebuild the portfolio and allow the portfolio time to recover. BMO's Retirement Transition Illustrator can help you figure out how much longer you might need to work.

Let's say you had converted your RRSP into a RRIF. This presents two problems.

1. With a RRIF you are obliged to withdraw a legislated minimum percentage each year based on your age (details are in Canada Revenue Agency's IC78-18R6 and TaxTips.ca's RRSP/RRIF calculator will work out the exact amount using the formula 1/(90-age) for the years prior to age 71 - e.g. if you are 60, the percentage is 3.33% so you must withdraw $3330 for every $100,000 balance in your RRIF as of Dec.31st of the year before).
2. You are not allowed to make any additional contributions to a RRIF to build up your portfolio.

The simple solution for those under age 71, which is the age when it is mandatory to convert an RRSP to a RRIF: transfer all, or part, of the RRIF back into an RRSP. There is no cost and no tax consequence of doing so, as long as the transfer is done directly, from registered account to registered account. DO NOT withdraw the whole amount from the RRIF as it would all be taxable income that year and you could only recontribute back into an RRSP to the extent of having contribution room. If you have a sizeable RRIF such an action would be very costly in taxes.

To do the transfer properly, you should contact the customer service folks of the broker - in fact, a phone call may suffice to do the transfer. If your RRSP and RRIF accounts are with the same broker they do not need to fill in the transfer forms. It is a definite convenience to have multiple accounts with the same firm.

For those aged 65 to 71, it may be worthwhile to have both a RRSP and a RRIF open (it is entirely acceptable to have both RRSPs and RRIFs open at the same time) since a withdrawal from a RRIF from age 65 onwards qualifies for the pension income tax credit, which offsets the tax and allows one to receive tax-free up to $2000 of such RRIF income. A withdrawal from an RRSP is not eligible for the pension tax credit. TaxTips explains this on How to create pension income. If you don't need this income to spend it could be put into a TFSA account, where it will remain tax-free.

Though the income tax rate is identical on RRSP and RRIF withdrawals, RRIFs have another small advantage in that there is no tax withheld at the time of withdrawal for the minimum required RRIF payment. Tax may still be payable but the moment of reckoning is deferred to the annual April 30th deadline for income tax returns. In the meantime, you get to keep all the money.

The key to rebuilding a retirement portfolio for those just at the point of retirement is working longer, saving money and giving the market time to recover. But it is useful to know some ins and outs of RRSPs and RRIFs that can help. Every little bit helps.

If you are not sure how to carry out these tips, consult a competent financial planner or an accountant.