Insurance Understood: Doughnut sprinkles
By Medicine Hat News on February 10, 2018.
Tim Hortons is a popular place to pick up doughnuts this time of year. My daughters’ eyes widen when they see doughnuts with sprinkles! Your eyes may widen as you read how sprinkles may save you tax. Really — stay with me for a bit. I’m talking about an RRSP or RRIF sprinkle strategy; which is when you intentionally redeem RRSPs or RRIFs in order to reduce your overall tax bill upon death. If you could enhance your estate, would you? When sprinkles are paired with a permanent insurance strategy you can win the tax battle while living and upon death. First off, let’s review that when you purchase an RRSP you get a tax deduction. This means that your income for tax purposes is reduced. This results in a tax refund, which may feel like winning a small lottery. However, the government will eventually get some level of tax back when you withdraw them. Most people plan to purchase them when they have a high income with high tax rates and redeem them in retirement at a lower income with lower tax rates. However, when the timing is not perfect then a person may die with RRSPs or RRIFs. Upon death (with no surviving spouse) the entire amount of your RRSP or RRIF is taxable in the year of death. For a simple calculation of the tax result go online to Ernst and Young Tax Calculators and plug in your yearly income (pensions, CPP, OAS, interest from GICs, etc.) to determine the taxes you pay. Now add the entire value of your RRSP or RRIF to see how much tax will be due (and try not to fall over!) If you like, I can assist you with this calculation too. The sprinkles sound great, right? Well, there is an issue when a person already has a high income and tries to sprinkle. It may bump them into the same or higher tax bracket than when they made the deposit. This past week, I met with a client who earned income from pensions totalling approximately $30,000. Their non-registered GIC interest was adding another $25,000 of income per year for a total of $55,000. My client is in his/her 80s so has a limited time to sprinkle. If you use the deposit features of an insurance contract you can actually reduce your income which would then would allow you to take more RRSP or RRIF sprinkles out before death; thus, resulting in a lower tax bill upon death and even while you are alive. Remember from my other columns, that the government allows you to deposit more premiums into an insurance contract than are required for immediate mortality costs. The excess deposits can grow free from tax as they remain in the insurance contract. So for my client, we will place some of the taxable investment into the insurance. They will make equal deposits for a very limited number of years and have a fully paid up policy. This tax shelter will reduce his/her income and allow us to increase the RRIF withdrawal rate. Therefore, we can reduce the RRIF value and taxes at death. Other advantages to this are avoiding probate, and a higher after-tax rate of return than investing in conventional GICs. If someone had an even higher income, it could also protect him/her from a claw back of Old Age Security benefits. Note that my elderly client did not require insurance to protect income. Rather, we used insurance for its tax attributes. There is still a death benefit paid which means that the estate may be massively enhanced with an early death. So, if you like sprinkles on your doughnuts then I encourage you to talk to your professionals to customize a plan for you! Steve Meldrum B.Mgt. CFP CLU is the founder of Swell Private Wealth Ltd. For over a decade he has specialized in helping individuals and businesses expand protect and perpetuate their wealth. For further information or tailored advice, contact him at 403-487-0490, steve@swellwealth.com or connect on social media. 8-7
