How do I keep away from Previous Age Safety clawbacks attributable to excessive dividends?

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By Julie Cazzin with Allan Norman

Q: My spouse and I are 83 and 80, respectively, and I’m dropping my Previous Age Safety (OAS) attributable to dividends and my registered retirement earnings fund (RRIF) withdrawals. I want after I was youthful that somebody had advised me dividends may very well be an issue as a retiree. I’m pondering of cashing out my RRIF this 12 months and cashing in my shares for index funds so I can accumulate my OAS pension. Does this make sense? Our tax-free financial savings accounts (TFSAs) are maximized, I’ve $600,000 in RRIFs in addition to a pension of $45,000 per 12 months, and my spouse has $490,000 in a RIFF. We have now non-registered investments of about $3.5 million with a dividend yield of about 3.2 per cent, and a small rental in my spouse’s title with an earnings of $9,000 per 12 months. — Tim

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FP Solutions: You might be in a great spot, Tim, and it’s good to consider find out how to reduce your taxable earnings to scale back OAS clawbacks, which apply in case your internet earnings exceeds $90,997 in 2024. And you’ll have to repay 15 per cent of the surplus over this quantity to a most of the whole quantity of OAS acquired. Simply watch out that you just don’t do one thing that can price you extra money in the long term.

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Don’t beat your self up about dividend investing. If, whenever you have been younger, you have been suggested that future dividends might lead to OAS clawbacks, you might not have the cash you’ve gotten as we speak. Dividend investing is a relatively simple inventory choice technique, making it in style with DIY buyers. That, plus the truth that worth shares — usually dividend payers — have traditionally outperformed development shares.

At this time, your shares are producing a gentle stream of taxable dividends that you’re reporting in your tax return. Nevertheless, you should report the grossed-up (38 per cent) dividends, not the precise quantity of dividends acquired. For instance, if you happen to obtain $100,000 in dividends, you report $138,000, which is the quantity used to evaluate OAS clawbacks. After the clawback evaluation, the dividend tax credit score is utilized, bringing down your taxable earnings.

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Dividends are one tax situation in a non-registered account. Capital positive factors, that are the distinction between the e-book and market worth of an asset corresponding to shares or funding actual property, are the opposite tax situation, and they’ll additionally influence your OAS eligibility.

The problem with holding particular person shares in a non-registered account is the tax drag (the discount in potential earnings or development attributable to taxes on funding positive factors) created by dividends and capital positive factors when buying and selling shares.

My guess is you’re pondering of switching to index funds as a result of they are usually extra tax environment friendly, are longer-term holds and, in accordance with the SPIVA stories — which evaluate returns from lively fairness and fixed-income mutual funds and their benchmarks — usually tend to outperform managed portfolios.

In the case of RRIFs, I usually counsel to folks beginning retirement not to attract greater than wanted except the surplus goes into one other tax shelter corresponding to a TFSA. The explanation for that is due to the tax drag I described above.

For those who draw extra cash out of your RRIF, you pay tax and have much less cash to reinvest. In your case, Tim, that quantities to about 40 per cent much less or much more, relying on the quantity you draw out of your RRIF. You might be additionally topic to the tax drag of dividends and capital positive factors whenever you put money into a non-registered account.

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Having stated that, as you draw nearer to the tip of your life, there’s a tipping level when it begins to make sense to attract out of your RRIF and put money into a non-registered account. Within the 12 months of your dying, your marginal tax fee (in Ontario) will probably be 53.53 per cent. For those who can draw cash out of your RRIF at a decrease tax fee within the 12 months previous to your dying, that’s higher than leaving all of it to the tip when it’s taxed at a better fee.

Similar to the youthful retiree withdrawing extra from their RRIF, you’re nonetheless confronted with much less cash to take a position and a tax drag. The distinction, utilizing the instance above, is that there’s just one 12 months of the tax drag, and if you happen to had left the cash within the RRIF, just one 12 months for the tax-deferred development to make up for the bigger tax fee within the remaining 12 months.

I used to be curious to see what would occur if you happen to withdrew all of your RRIF cash now at age 83, or sufficient annually to deplete it by age 90, in comparison with leaving all of it till age 90. I discovered that in each instances, utilizing age 83 as your tipping level, you’re higher off not withdrawing extra cash out of your RRIF.

There’s, nevertheless, a bonus if you happen to withdraw cash out of your RRIF and reward it to your youngsters. I discovered the most important acquire, as measured by the whole wealth switch to your youngsters, got here whenever you withdrew every part out of your RRIF in a single shot somewhat than depleting it over seven years. After all, the whole acquire will rely upon what and the way your youngsters make investments the cash.

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Have you considered charitable contributions? Together with extra RRIF withdrawals, or by itself, you possibly can donate a few of your shares with giant capital positive factors to a charity. By doing this, you keep away from the capital positive factors tax, thereby providing you with extra money to take a position and a bigger charitable tax credit score.

Tim, with the property you’ve gotten, I don’t see you escaping the OAS clawback except you maybe withdraw every part out of your RRIF now and donate all of your non-registered investments to a charity. If it makes you’re feeling any higher, it’s the after-tax OAS quantity you aren’t receiving.

Allan Norman, M.Sc., CFP, CIM, offers fee-only licensed monetary planning companies and insurance coverage merchandise by Atlantis Monetary Inc. and offers funding advisory companies by Aligned Capital Companions Inc., which is regulated by the Canadian Funding Regulatory Group. Allan will be reached at alnorman@atlantisfinancial.ca.

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