An effective tax plan is a crucial part of planning for retirement and can help you make the most of your financial resources. It’s always important to consider the amount of after-tax income you’ll earn. As the saying goes, “it’s not what you earn, it’s what you keep.”
Most retirees draw income from multiple sources and each source may be taxed differently. For this reason, a good tax plan is important because it can have a significant impact on the after-tax dollars you’ll have to spend in retirement.
A tax-efficient withdrawal strategy considers the tax impact on your potential income sources. It’s important to think about which assets to use now and which to use later. Of course, these decisions will depend on your circumstances because each retirement situation is unique.
Tip: start with the least flexible income sources first, like CPP, OAS or pension plans.
Drawing income in the right order to maximize tax efficiency
|Age 60-71||Government benefits||Pensions||Distributions from non-registered accounts||RSP or capital from non-registered accounts*||TFSA|
|Age 71+||Government benefits||Pensions||Locked-in accounts||Minimum RIF withdrawal||Distributions from non-registered accounts||RIF or capital from non-registered accounts*||TFSA|
The reason for using government benefits and pensions first is that you have little control once you reach retirement age over how much you’ll receive from these sources and they are taxed as earned income. That means there aren’t any tax-reducing opportunities with this type of income.
Granted, you can decide when to begin taking government benefits, but your decision will definitely have an impact on your retirement income. Payments from government retirement benefits are lower the earlier you start, but the extra years of payments should make up for the difference. If you’re less worried about cash flow at the start of your retirement, you may think about taking CPP later. The benefit? Each year you defer you’ll be able to collect more.
People often underestimate the impact that taxes can have on their income. And they may not understand that different sources of income are taxed differently. Choosing investments, accounts and income sources that benefit from favourable tax treatment can help you keep more cash in your pocket.
Make sure you’re getting the most out of retirement – talk to your financial advisor about how to make your plan more tax efficient.