Retirement Basics: Understanding How RRIF Rules Work
It’s no secret that saving for retirement is one of the most important things you can do to secure your financial future. While there are a number of paths Canadians can take, RRSPs remain one of the best ways to build retirement savings. But what happens to your RRSP after you retire, and how do you draw income in a way that is tax-efficient?
To best answer those questions, it’s crucial that you have an understanding of how Registered Retirement Income Funds (RRIFs) work, and how they differ from your Registered Retirement Savings Plan (RRSP). In this article, I’ll cover everything you need to know about RRIFs and share some tips to help you make the most of this important source of retirement income.
What Is a Registered Retirement Income Fund?
A surprising number of Canadians don’t realize that you can’t hold onto your RRSP account forever. In fact, you must close out your RRSP by the end of the year you turn 71. At that point, your option is to either withdraw the balance of your RRSP in full (not recommended), or convert the funds into an annuity, or RRIF, yet another registered plan sponsored by the government of Canada. For the purpose of this article, we’ll focus on the latter.
RRIFs, like RRSPs, are not investments in and of themselves, but a tax-free umbrella of sorts, inside of which you can invest your savings a number of ways. Like RRSPs, you control how the underlying funds in the RRIF are invested, be it stocks, bonds, mutual funds, ETFs, GICs, etc. This element of control is one of the reasons that the RRIFs are a preferred method of RRSP conversion.
While RRSPs are designed to accumulate savings over the course of your lifetime, RRIFs are designed to pay you income throughout your retirement years. To better understand how they do this, let’s take a closer look at how RRIF withdrawals work.
RRIF Fast Facts
- All withdrawals from your RRIF are included in taxable income
- You can base your annual minimum payments on your spouse’s age
- RRIFs can be transferred between different financial institutions
- You can hold more than one RRIF account at a time
- The annual minimum payment percentage increases each year
- RRSPs must be converted to a RRIF by age 71
- You can convert funds to a RRIF as early as age 55.
- You can invest money in a RRIF any number of ways
- By naming a beneficiary, funds in your RRIF are not included in your estate
- A spousal RRSP can be converted into a spousal RRIF
- With a RRIF there is no maximum withdrawal amount
Understanding How RRIF Withdrawals Work
Because the purpose of a Registered Retirement Income Fund is to pay you a retirement income, you must withdraw a portion of your overall account balance each calendar year. The RRIF minimum withdrawal amount is calculated as a percentage of your plan’s total value at the beginning of the year. The percentage is also based upon your age. In other words, the younger you are, the lower the minimum withdrawal amount.
For example, if you are currently 72 years old, your minimum withdrawal amount this year would be 5.40% of your overall account balance. In other words, if the overall balance of your RRIF at the beginning of the year was $150,000, you would be required to withdraw $8,100. The following year, the percentage would increase to 5.53%. Keep in mind that with RRIFs, you are not restricted to making minimum withdrawals. You can always make a lump sum withdrawal in excess of the minimum.
It’s important to note that your minimum withdrawal amount is NOT subject to withholding tax, but it must be included as income for the year in which it was withdrawn when you are filing your taxes. This is important to note, as you may be required to pay income tax on this amount, depending on your situation. Over and above the annual minimum withdrawal, the financial institution holding your RRIF is required to collect withholding tax, at the time you make a RRIF withdrawal.
Withholding Tax Rates
If you are withdrawing more than the annual minimum from your RRIF, you will be subject to withholding tax, taken at source. Here are the withholding tax rates for anyone living outside of Quebec.
Withdrawal Amount Withholding Tax Rate (%)
Up to $5,000 10%
$5,001 to $15,000 20%
Over $15,000 30%
Note: The withholding tax rate for a non-resident is 25% for lump-sum withdrawals, and 15% for regularly scheduled payments.
Even though your financial institution has collected withholding tax on your behalf, you are still required to claim the income amount you’ve withdrawn come tax time. Depending on your overall situation, and your marginal tax rate, you may be required to pay even more tax, or, you could receive some or all of it back in the form of a refund. It all depends on your situation. I’ve included a few tips further down that may help to minimize the amount of tax you pay on RRIF income.
When Can I Set Up a RRIF?
As I mentioned earlier, you must convert your RRSP to a RRIF by the end of the year in which you turn 71. However, if it makes sense to do so, you can convert to an RRIF as early as age 55. Keep in mind, however, you would be required to begin withdrawing the annual minimum amount at that time. Currently, the annual withdrawal percentage at age 55 is 2.86%. On the opposite end, if you make it to age 95, and still have any RRIF funds remaining, your minimum annual withdrawal will have risen to 20%.
You may be wondering why someone would want to convert to a RRIF at such an early age? It could be advantageous to someone who is retiring early, and requires income from their RRIF. Or, you could be anticipating other, significant income sources later in retirement, like a workplace pension, that would place you in a higher tax bracket. Thus, it may make sense to begin to deplete your RRIF earlier, in order to lessen the tax burden later on. Just because you withdraw money from your RRIF, doesn’t mean you have to spend it. The funds could be moved into another investment vehicle, such as a TFSA.
How Can I Invest My RRIF Money?
As I mentioned earlier, an RRIF is not an actual investment, it’s a tax shelter. That means that the money inside your RRIF can be invested in any number of ways. That’s right, you can invest your RRIFs in GICs, stocks or bonds, even mutual funds, and ETFs. You can even open a self-directed RIF account through a discount broker like Questrade, or with a robo-advisor, such as Wealthsimple, for example. The options are endless.
RRIF vs LIF
You may have heard of the term LIF, or Life Income Fund, and be wondering how it’s different from a RRIF. Life income funds are like a counterpart to a RIF, but for locked-in retirement plans. A LIF is used to manage funds that originated from an employer pension plan. Because the funds in a LIF are ‘locked in’, there is a maximum amount that can be withdrawn each year, as well as a minimum. Otherwise, they work very much like RRIFs. They are designed to pay out income, and amounts withdrawn are taxable. This article has more information on locked-In plans, including LIFs.
The way in which Canadians utilize RRIFs in retirement will vary because everyone’s situation is different. That said, here are a few tips you’ll want to consider, to get the best results from this government registered retirement plan.
- If your spouse is younger than you, you can base your RRIF minimum annual withdrawals on their age. This way, you can reduce the amount of income you’re required to withdraw each year, resulting in potential tax savings.
- RRIF withdrawal amounts can be set to a variety of frequencies; weekly, bi-weekly, monthly, quarterly, and annually. Check with your financial institution to make sure your payments are set up in a way that works for you. A lump-sum payment can be taken anytime.
- You can transfer your RRIF from one financial institution to another. This may require selling the underlying investments, or paying transfer fees, but you won’t incur income tax providing that you follow the proper procedures. See your financial institution for details on how to make a transfer.
- If you are married, you should consider naming your spouse as your ‘successor annuitant’ for your RRIF. This way, the funds inside your RRIF would be transferred into their name upon your passing, and payments could continue as is, avoiding any estate taxes or complications.
- Invest the right way. Many people defer to safety investments for their RRIF, thinking that because they are in retirement, that they can’t handle any risk in their portfolio. The problem with this approach is that people are living longer now than ever, and income from your RRIF may be required for 20 or more years. Of course, you should always consult with an investment professional
- Income from your RRIF could impact other benefits. For example, the amount of Old Age Security, or OAS, you receive, is determined by your overall income. By pulling too much income from your RRIF, your OAS benefits may be negatively impacted. This is just one reason why you should plan in advance how to best draw RRIF income in retirement.
RRIF Rules Summary
There are many factors to consider when preparing to convert your Retirement Savings Plan to a RRIF. While this article covers many important RRIF topics, you should always consult a professional for advice. How you manage your RRIF will depend on your marital status, age at retirement, as well as your other retirement income sources, such as an employer pension, government benefits, or even an anticipated inheritance. All of these are factors that should be taken into account. Last, but not least, is how best to invest the funds inside your RRIF. With so much to consider, my hope is that you now have a solid foundation from which to start.