Article Review
Summary of article
This article discusses the consequences of helping a family member with RRSP contributions. For tax planning, funding money to a family member for contributions to their RRSP and attraction of attribution rules. Any withdrawals made by a family member from their RRSP after contributions are subject to get attributed back to the transferor’s hand and the transferor needs to pay tax on those withdraws. As Tim Cestnick author of article suggested some other option which may be suitable for tax planning like contributing to spousal RRSP, suggest family member borrow money from financial institution for RRSP contribution, lending money to them at prescribed rate, or gifting money to adult child for RRSP contribution, which does not trigger any tax consequences to the transferor.
Detailed Analysis:
Introduction to RRSP: As outlined by David R Gobeil” A Retirement saving plan (RRSP) is a trust funded by the contribution of cash or other property to provide income on retirement. There mainly three parties in RRSP
1. Contributor: Who contributes fund on RRSP
2. Beneficiary: An individual who is entitled to benefit from a trust, either by receiving an income interest, capital interest, or life interest.
3. Annuitant: the individual who is entitled to receive the retirement income” (Retirement Planning,2017 edition, David R Gobeil- Published by D.R.Gobeil & Associated limited.)
RRSP is the vehicle that provides individual tax-sheltered savings and designed to encourage Canadians to save for retirement. The amount of any individual earned income able to contributes to RRSP. Basically, earned income include from any of sources like net employment income, business income, employee profit-sharing plans, taxable benefits from wage-loss replacement, taxable alimony and maintenance receipts, CPP/QPP less the sum of net rental loss on real property, refunds of salary, wages, current year losses from carrying on business, deductible alimony. Canadian Revenue Agency limits the maximum amount able to contribute to RRSP. For 2018 any individual can able to contribute amount lessor of 18% of earned income or $26,230. There is no minimum age to contribute to RRSP but the age of maturity for RRSP is 71 years of age. By the end of the year that an individual turns 71, he or she must convert RRSP into any of lump-sum payment, annuity or RRIF. An individual may be able to make property contributions to RRSP. The amount of RRSP contribution for tax purposes is the fair market value of the property at the time of contribution. As stated by Wolters Kluwer ”If an individual is not able to contribute the maximum amount, he or she is allowed to carry forward the unused deduction limit and there is no time restrictions.”( Introduction to Federal Income Taxation in Canada, Wolters Kluwer,39th edition,2018-2019)
RRSP tax benefits
1. Deferred Tax: Tax benefits are the main motivation for contributing to an RRSP. But the government focus on saving for retirement which will help an individual for their retired life as well as old aged. From a tax point of view, during the contribution time an individual has high income so fall in high tax brackets, another side during the time of retirement individual has less income so fall in low tax brackets. The contributions do not create a taxable benefit until they are withdrawal from the plan. In this way, an individual is able to defer tax from the year of contributions to the year of withdrawal from the plan.
2. The tax upon withdrawal: An individual who contributes to RRSP is also able to get credit which will reduce the amount of tax owed. An annuity payment under an RRSP will get pension credit.
Fund given to a family member to contributes their RRSP:
Non-Arm’s length Transaction: As stated by Bill Buckwold and Joan Kitunen, “Non-arm‘s length transfer rules are designed to prevent tax avoidance in certain transactions between the persons not dealing with arm’s length. Non-arm’s length transactions can occur between
· An individual and another individual,
· An individual and a corporation and
· A corporation and another corporation
Transaction between individual (related person): for tax purposes, individuals are related to each other if they are direct line descendants (grandparents, parents, children, grandchildren and so on) or if they are brothers, sisters, spouses, or in-laws but not include cousins, aunts, uncles, nieces, and nephews.”(Canadian Income Taxation, Bill Buckwold, Joan Kitunen,2018-2019,21E).The attribution rules ensure that regardless of who holds the legal titles to the earning asset, the income earned will be taxed in the transferor’s hand. Income like interest, dividends, rental income, business property as a specified number, rental losses, business losses as a specified member, and capital gains or loss generated from the transferred funds may be attributed back to the transferor’s hand.
As presented in the global and mail article writer described his situation based on the same attribution rules. So same rule applies in the case of RRSP where an individual gives money to his/her spouse to contribute to their RRSP, all or part of the withdraws made from RRSP will be taxed in transferor’s hands because the CRA considers RRSPs to be property and any withdrawals from an RRSP are considered to be” income from property”(The Global and mail, published February 8, 2018). For example, Ram gave $3000 to his spouse Sita to invest and any income or capital gain generated in investment from that amount and withdraw by Sita will be attributed back to Ram. This includes income resulting from RRSP withdrawals. Another side, business income is not subject to attribution. Attribution rule does not apply to any income-earning from active participation like a business, but it will be attributed back if the investment made passive like property to the original owner. There is some exception for attribution rule such as fund transfer to the spouse at fair market transfer, the interest charged in transfer amount or condition of the spousal election. In the spousal election, the act allows for the transfer of capital property to a spouse without triggering disposition.
Another side income from the property transferred to children over the age of 17 is not attributed to a parent. Interest-free or no-interest loan to a child (or other non–arm's-length person) over the age of 17 may result in attribution if the primary purpose is to shift income from an individual to another for tax purposes and the same rule applies to RRSP investment. Parents may need to pay tax on all or some of the money of the child’s RRSP withdrawals later. Any income generated from the transferred fund / gifted to the minor child are attributed back to transferor but capital gain on the property transferred to minors are not subject to attribution.
Writer Suggestion For Other Option and Analysis
Contribution to Spousal RRSP: The taxpayer can make eligible contributions to an RRSP held in the name of his/her spouse or common-law partner. This is advantageous when the spouse is in a lower tax bracket than the contributing spouse during the retirement years. For example, if Bhuwan’s pension will be larger than his spouse, Bhuwan's tax bracket will be higher than his spouse, in that case when Bhuwan chooses to contribute to his spousal RRSP will benefit during retirement by paying at a low tax rate during withdraw. When the taxpayer chooses to make a contribution to spousal RRSP, the contributing spouse is entitled to the corresponding tax deduction and contribution reduces the contributing spouse’s room but does not affect the contribution room of receiving spouse.
Attribution Rule: Withdrawals from a spousal RRSP, income may be attributed back to a contributing spouse where deposits have been made to a spousal RRSP in the current or in the previous two years. So before contributing to a spousal RRSP, you need to think about which tax bracket each spouse is in also plan to withdraw money in the near future or not.
Other Suggestions
Alternatives 1: A spouse or adult child can decide to borrow money from a bank to make RRSP contributions: this option also depends on the interest rate on loan, ability to pay back the loan, their individual debt level, and individual taxable income.
Alternative 2: An individual can lend money to spouse or child and charge the prescribed rate: this may be a good suggestion where attribution rules will not apply.
Alternative:3 Make a Gift: Another suggestion can be to make a gift of money to an adult child to help them make RRSP contributions. This will not be attributed to a parent. Taxpayers can split income with children who are 18 years of age or older by gifting them the property that will earn investment income and ensuring that they can use all available deductions and tax credits.
Relevancy of This Article and Topics
This article and analysis help to understand different aspects of tax planning. As all Canadians want to save money for our retirement. By making contributions in RRSP, we are able to grow our retirement fund and can also help to defer tax liabilities too. Sometimes, we want to split our income with our family members which may trigger tax consequences like attribution back for any taxpayer. After analyzing this article, we are able to get a better idea about when and how attribution rules apply, which is also important to any taxpayer to make an informed decision.
References:
Byrd & Chen’s Canadian Tax Principles, 2018-2019 edition
Canadian Income Taxation, Bill Buckwold, Joan Kitunen, 2018-2019,21E
Introduction to Federal Income Taxation in Canada, Wolters Kluwer,39th edition,2018-2019
Retirement Planning 2017 edition, David R Gobeil -Published by D.R. Gobeil & Associates Ltd.