Are you and your partner taking advantage of the right tax breaks?
One powerful investing option available to couples is the Spousal RRSP.
What is a Spousal RRSP?
A spousal RRSP is an investment account that you can open and fund on behalf of your partner. The money that you invest for your partner becomes a tax credit for you, helping you reduce taxes in the current tax year.
The reason to take advantage of the Spousal RRSP program is to even out your retirement assets between the two accounts. This is especially prevalent when one partner earns significantly more than the other.
To see this in action, consider the following couple, Jane and John. Jane made $120,000 last year, while her partner John is a stay at home father. John’s income from his part time work was only $40,000.
The RRSP contribution limits are calculated as a percentage of your earnings, up to a yearly maximum. For the current year, Jane’s RRSP contribution limit would be $ 120,000 * 18% = $21,600.
John on the other hand has an annual RRSP contribution limit of $ 40,000 * 18% = $7,200.
If they were to both max-out their RRSP contributions, Jane would have a significantly larger nest egg come retirement time. John and Jane would need to withdraw that money during retirement, and Jane would end up paying a much higher tax rate.
Retirement Tax Time
In the above example so far, Jane would have a much larger retirement account balance for retirement. This means that she would be withdrawing more from her accounts than John.
Let’s say they needed $100,000 each year for their retirement lifestyle. Jane, with the larger account, would withdraw $80,000, while John would withdraw $20,000. That means Jane pays income tax on that $ 80,000, which John pays income tax on the $20,000.
The Spousal RRSP Option
Alternatively, Jane and John could take advantage of the Spousal RRSP. Jane’s limit would still be $ 21,600 for tax deduction purposes, but Jane could invest some of that money into a Spousal RRSP for John.
To ensure that both Jane and John had similar investment accounts, Jane could contribute $ 14,400 to her own RRSP, and the remaining $7,200 to John’s RRSP through the Spousal RRSP program. John could contribute his own $7,200 for the year as well. At the end of the year, both Jane and John will have $14,400 in their RRSP’s.
Jane will have realized $ 14,400 in tax savings from her own RRSP, plus another $ 7,200 from her Spousal RRSP contributions, for a total of $ 21,600. John will have realized his full $ 7,200 in tax savings for the year as well.
This would give them comparable sized retirement accounts, and allow them to each withdraw a lower amount annually in retirement.
Instead of Jane withdrawing $ 80,000 and John withdrawing $ 20,000, they both could withdraw $ 50,000 to reach the same combined annual income in retirement. The difference here is that Jane pays a lower marginal tax rate, ultimately saving money on taxes. And less taxes paid as a couple means more of their hard earned dollars can be spent on the retirement lifestyle they want!
How Do I Open a Spousal RRSP?
Anywhere that you can open an RRSP, you will also be able to open a Spousal RRSP. This allows you to contribute some of your RRSP allowable contributions to your spouse / partner, giving you the tax deduction and your partner the tax-deferred investment growth.
What About the Fine Print?
As with all investment accounts, there are terms and conditions applied. For a Spousal RRSP that means a restriction upon when the Spouse can withdraw the money. Funds must sit in the investment account for at least 3 years before withdrawals are made. Making a withdrawal sooner triggers a tax liability, where tax must be paid on the contributions.
The other caveat is this: that money is your partners. While you can contribute any amount you want, within your personal RRSP contribution limits, you cannot access or change the investments.
Is a Spouse RRSP right for you?
If there is a large income discrepancy, caused by a stay-at-home parent, or even just different professions, the answer is most likely yes.
Splitting your retirement savings between both members will help balance the withdrawals. This will reduce the marginal tax rate paid on those retirement funds withdrawn.
Spousal RRSP’s are a powerful financial tool available to couples, helping balance out retirement savings to reduce taxes in retirement. If you think this tool is right for you, perhaps it is time for an open and honest talk about the families finances. You’re in this journey together. Not all trials will be simple, so you might as well take the easy road when it’s available!