Income Splitting with a Spousal RRSP

| July 7, 2014 | 2 Comments

Spousal RRSPA spousal RRSP can be an effective income-splitting tool. It allows the spouse who is in the higher tax bracket to claim the deduction, while providing retirement income to the other spouse, which could reduce taxes when the money is withdrawn during retirement.

To be deductible, the total of all amounts that you contribute to both your RRSP and your spouse’s RRSP,  but cannot be more than your RRSP contribution limit.

The idea is to build two pools of savings that will create two similar income streams during retirement. Under Canada’s progressive tax system, the taxpayer and their spouse would likely pay less tax on the two streams of income than if all the retirement income were taxed in hands of the higher income earner.

How does it work?

Homer has $200,000 in his RRSP and his the marginal tax rate on $200,000 is 40%. If Homer withdraws the entire amount at once, the tax would be $80,000, ($200,000 x 40% = $80,000).

Suppose, instead, that Homer contributes to a spousal RRSP in his wife, Midge’s name, as well as to his own RRSP. Each account has $100,000. Assume the marginal tax rate on $100,000 is 30%. If Homer and Midge withdraw $100,000 from each of their RRSPs, the tax would be $60,000 (100,000 x 30% x 2 = $60,000).

By income-splitting, Homer and Midge still withdraw $200,000 but they save $20,000 in tax, calculated as ($80,000 – $60,000 = $20,000).

Be careful when you withdraw!

Withdrawals from a spousal RRSP are attributed to the person that made a deposit as taxable income if the money is withdrawn from the spousal RRSP in the that year and within 2 calender years of the deposit.  Such withdrawals will be taxable income to the spouse who made the contribution, not the spouse who is the annuitant under the plan.

An RRSP contribution made within the first 60 days of a calendar year can be claimed as a deduction either in the current year or the previous year. However, since attribution rules apply to calendar years, the attribution period is calculated based on the calendar year in which a contribution is made even if the tax deduction for that contribution is claimed in a different year.

Han contributed $5,000 to a spousal RRSP for his wife Leia at Bank A. Two years ago, Han contributed another $2,000 to a spousal RRSP at Bank B. Last year, Leia withdrew $3,000 from the spousal RRSP at Bank A. Even though these funds had been in the RRSP for five years, $2,000 of this withdrawal was attributed back to Han because he had made contributions of $2,000 to another spousal RRSP within the previous three years. Thus, Han had to include $2,000 in his taxable income, while $1,000, calculated as (withdrawal – amount attributed to spouse) or ($3,000 – $2,000), was attributed to Leia.

If one of you is a stay at home parent, you should consider setting up spousal RRSP. This will allow the both of you to split your income at retirement and minimize your income tax liability when money is withdrawn from the plans. If you have questions or want to know more about spousal RRSP’s please send me an e-mail.

 

Photo credit: Pink Sherbet Photography / Foter /Creative Commons Attribution 2.0 Generic (CC BY 2.0)

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Category: Family, Finance, Living

About the Author ()

Andrew is a licensed Life Insurance Broker and Registered Retirement Consultant-RRC® helping Ottawa families since 2011. Awards : 2017 ThreeBestRated.ca -Handpicked Top 3 Financial Services in Ottawa, 2017 Faces Magazine Awards – Ottawa’s Favorite Financial Advisor, 2017 Feedspot Top 40 Life Insurance Blogs on the web and 2016 Insurance Business Magazine – Life & Health Advisor of the Year Finalist.

Comments (2)

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  1. Brenda A says:

    Great advice, clearly explained. This is something we have been taking advantage of for years, especially since I have been a stay at home parent for the last 7 years.

  2. KD says:

    “However, since attribution rules apply to calendar years, the attribution period is calculated based on the calendar year in which a contribution is made even if the tax deduction for that contribution is claimed in a different year.”

    That is good to know! It would be easy for someone to think they had passed the two-year mark when they were a year away from it, due to claiming the tax deduction for the previous calendar year.

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