Depending on how your registered accounts are set up, they may be treated differently when you, the owner or annuitant, dies. Ensuring you set up your savings or retirement accounts properly and writing a will should be part of your estate planning. And the sooner you get it done, the better.
Registered Retirement Savings Plan (RRSP)
The RRSP is a savings plan set up by the government to encourage individuals to save for their retirement. Contributions made to the plan during your working years are deductible and are sheltered from taxes until you start withdrawing from the plan.
In general, at the time of death, the RRSP annuitant (owner) is deemed to have cashed out their RRSP assets and the fair market value of the investments is included in their income for the year and taxed at their marginal tax rate. However, there are several ways by which you can ensure that your beneficiaries get what you want for them and that the taxman does not end up with a great chunk of your estate.
Potential scenarios for RRSP account beneficiary’s following death include:
A. You have designated a qualified beneficiary in your RRSP application. Qualified beneficiaries include:
- Spouse or common-law partner
- Financially dependent child or grandchild who is infirm (has a physical or mental disability)
- Financially dependent child or grandchild
B. You have not designated a ‘qualified’ beneficiary (or anyone at all) in your RRSP application. Scenarios include:
- Financially independent child or grandchild
- A charitable organization
- Designating the estate as the beneficiary
Let’s discuss these options individually.
A. Designating a Qualified Beneficiary
Spouse or Common-Law Partner
The RRSP assets can be transferred or ‘rolled-over’ to a spouse who has been designated as a beneficiary in the RRSP contract. Depending on their age, a spouse can decide to transfer the assets to their RRSP or RRIF in order to keep the tax-deferred status. With this approach, they will not be paying any taxes on the assets until they start withdrawing funds from their RRSP/RRIF. The estate of the deceased will also not be required to pay taxes on the transferred RRSP assets.
A spouse can also choose to not roll-over the assets into a tax-deferred plan (RRSP or RRIF), and instead take it out as cash. In this scenario, the estate of the deceased will account for the value of the RRSP in the final income tax filing and will need to pay any resulting taxes.
Financially Dependent Infirm Child or Grandchild
An RRSP owner can designate their financially dependent child or grandchild who is physically or mentally disabled as their RRSP beneficiary. Depending on the child’s age, they may do the following with funds from the account:
- Transfer it into their own RRSP or RRIF
- Purchase an annuity that pays them annually until they reach 18 years of age
- Roll-over the assets into a Registered Disability Savings Plan (RDSP). There’s a lifetime overall limit of $200,000 to funds that can be transferred to an RDSP (including contributions). RRSP assets rolled-over into an RDSP are not eligible for disability grants.
An infirm child is deemed to be financially dependent on the deceased if they had a personal income in the previous year that is less than the basic personal amount ($12,069) plus the disability amount ($8,419) for that year – a total of $20,488 for 2019 ($20,044 for 2018).
Financially Dependent Child or Grandchild
If young children who are financially dependent on the deceased (but not infirm) have been designated as beneficiaries, the RRSP assets can be used to purchase a fixed-term annuity that pays them periodically until they reach 18 years of age. Any taxes due on the annuity payments will be paid by the child who would normally be in a much lower tax bracket.
However, these annuities are not possible after age 18. In a case where the child is an adult but financially dependent (and with no disability), the funds can be transferred to them in cash as well. The funds are then taxed as ordinary income in their hands at their marginal tax rate.
A child is deemed to be financially dependent on the deceased if they had a personal income in the previous year that is less than the federal basic personal amount for that year – $11,809 for 2018.
B. Designating a Non-Qualified Beneficiary
Financially Independent Adult Child or Grandchild
The fair market value of assets in the RRSP is transferred to the beneficiary and the value is fully reported in the final income tax return of the deceased, where it is subject to taxation.
Charity as Beneficiary
An RRSP annuitant can choose to designate a charitable organization as a part or full beneficiary to their RRSP assets after death. When this happens, the value of the assets are still included in the final income of the deceased and taxes are assessed. However, the charitable donation will qualify for the charitable donation tax credit of up to 100% of the RRSP assets donated. This tax credit should cancel out any taxes that are due on the donated amount.
Estate as Beneficiary
If no beneficiary is named or if the estate is designated as a beneficiary in the will, RRSP assets are added to the estate and included in the income of the deceased. The estate pays the required taxes.
If a ‘qualified’ beneficiary is named in the will as a beneficiary of proceeds from the estate, they may be able to make tax-deferred transfers of RRSP assets to their own RRSP, RRIF, Annuity or RDSP. For this to work, the “qualifying” beneficiary (such as a spouse or infirm child/grandchild) and the executor of the estate are required to file a joint election agreeing to go this route.
Having RRSP assets tied up with the rest of the estate increases the value of the estate and can result in increased probate and other administration fees.
Related: The TFSA Limit for 2019
Registered Retirement Income Funds (RRIFs)
Funds in a deceased’s RRIF are generally treated in a similar way as with an RRSP. Qualified beneficiaries are able to transfer or roll-over assets from the account to their own RRSP, RRIF, RDSP, or Annuity. Taxes are paid in the future at the hands of the beneficiaries when they make withdrawals from their registered account.
A difference between RRIF’s and RRSP’s is that for an RRIF, a spouse or common-law partner can be named as a “successor-annuitant” in the RRIF application. When this is the case, following the death of the RRIF holder, the account stays open and the spouse becomes the new owner and will continue to receive the RRIF payments. The advantage with designating a spouse as a successor annuitant is that there will be no need for them to collapse your RRIF and it is less stressful.
Tax-Free Savings Account (TFSA)
The TFSA is different from an RRSP or RRIF in that the initial holder of the account made contributions to the plan using after-tax funds. And, by definition, the account is tax-free, and income earned on investments is generally non-taxable.
A TFSA holder has an option to indicate beneficiaries on their initial application. Options available include naming a:
- Successor holder, or a
This designation can only be used for a spouse or common-law partner. Similar to “successor annuitant” for RRIF beneficiaries, a successor holder to a tax-free savings account simply takes over the account and becomes the new owner. They do not need to have TFSA contribution room available, and the account will not be subject to any taxes, including on any income earned after the death of the original holder.
A TFSA holder can designate a spouse, child, or any other individual as a beneficiary to their account after they die. In general, the account has to be collapsed and the value at the time of death will go to the named beneficiary and remain tax-free. If the beneficiary wants to contribute proceeds from the deceased’s TFSA to their own TFSA, their options vary depending on the following:
Spouse or common-law partner (CLP): Also referred to as “survivors”, a spouse or CLP to the deceased can contribute the value of the TFSA at the time of death to their own account without requiring contribution room. They must make this contribution (referred to as an exempt contribution) by December 31 of the year following death.
Non-Spouse beneficiary: Any other individual who inherits TFSA proceeds can contribute the amount to their own tax-free savings account if they have contribution room available. Any capital gains or income earned on the TFSA between death and when it is paid out, are taxable as ordinary income in the hands of the beneficiaries.
If no beneficiary is named or you name your estate as the beneficiary, the proceeds from your TFSA will be added to your estate and this will likely increase probate fees.
Retirement and estate planning can be difficult to navigate without extensive research or some professional help. If in doubt as to what to do, find a financial planner to assist you. As Benjamin Franklin once quipped:
In this world nothing can be said to be certain, except death and taxes.
The taxman will always get his ‘cut’, but you can minimize your overall tax burden through proper planning. Check your RRSP, RRIF, and TFSA applications again – you may need to call your financial institution to confirm what you have on file. Ensure that you have designated appropriate beneficiaries for all your accounts while you’re still breathing.