Your retirement goals—such as the age you plan to retire and the lifestyle you hope to enjoy—are unique to your situation. Therefore, it makes sense that your retirement savings and income strategies should also be customized to your unique personal and professional situation.
Saving for retirement by investing in registered retirement savings plans (RRSPs) is an appealing investment solution, because RRSPs allow savings to grow tax deferred and reduce taxable income. For many dentists, maximizing their RRSP contributions is beneficial because typically dentists don't have company pension plans to cushion their retirement nest egg. For the 2012 tax year, the annual RRSP contribution limit is 18% of the previous year's earned income to a maximum of $22,970. The contribution limit will increase to $23,820 for the 2013 tax year.
If you are investing in an RRSP, diversifying your holdings with investments from the 3 asset categories (cash, income and equity) can reduce the effects of market turbulence and inflation on your portfolio. At retirement, you could lose some of your purchasing power if you have only included cash investments (e.g, guaranteed funds or GICs) because these tend to grow slower than the rate of inflation. Historically, stocks and bonds (and equity or bond funds) provide better hedges against inflation over the long term. Diversification will also increase the potential for your portfolio to perform well in a variety of economic conditions.
Income Splitting
While you are allowed to split pension income equally with your spouse for tax purposes at age 65 and older, if you plan to retire earlier (e.g., age 60) that retirement income does not qualify for income splitting. In this early retirement scenario, establishing a spousal RRSP well in advance of retirement could allow you and your spouse to reduce taxes payable at retirement by drawing from 2 separate and smaller sources of retirement income. Let's say that a married couple decides to split $80,000 in pension income evenly. Their combined tax bill could be approximately $6,500* lower compared to one partner reporting the entire amount on his or her income tax return.
You may choose to convert your RRSP to a registered retirement income fund (RRIF) immediately upon retirement. In doing so, your RRIF withdrawals could be spread
over a greater number of years compared to waiting until age 71 (the age when you must convert your RRSP to retirement income). This strategy could allow you to remain in a lower income tax bracket throughout retirement. Receiving a smaller annual payout from your RRIF could also help you avoid the clawback of government benefit programs, such as Old Age Security.
On the other hand, even if you plan to retire early you may decide to wait until age 71 to convert your RRSP to a RRIF. This strategy can allow you to continue to defer taxes on money in your RRSP for as long as possible. It can also offer better control over the amount of taxable income you receive from the time you retire up to age 71.
Incorporated Dental Practices
If your dental practice is incorporated, you may have additional retirement savings options. For instance, you may decide to forgo an RRSP and have the corporation set up a corporate investment account that would eventually fund your retirement by paying you dividends at retirement. This strategy may provide advantages, such as eligibility for investment tax credits and deductions and income splitting with family members.
In a situation where you established an RRSP prior to incorporating your dental practice, you may want to consider converting your RRSP to a RRIF before you retire. This is a complex strategy that involves using your RRIF as your sole source of income in the last 5 to 10 years before retirement. You would not receive salary or dividends from your corporation during this period. Instead, the money that would have been used to pay salary or dividends would be invested in the corporation. At retirement, the corporation would pay you a dividend, which could be taxed at a substantially lower rate than RRIF income.
Alternatively, the corporation may be able to set up a defined benefit pension plan on your behalf such as an individual pension plan (IPP). Depending on your age and other factors, an IPP could allow for higher retirement contributions and greater tax savings compared to an RRSP. The corporation would make the contributions to the IPP and receive the tax deduction.
To obtain tax advice specific to your situation, consult your tax advisors. For help devising a personalized retirement savings and income strategy for your financial goals, contact an investment planning advisor at CDSPI Advisory Services Inc. at 1-877-293-9455, ext. 5023. (Restrictions may apply to advisory services in certain jurisdictions.)
THE AUTHOR
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Mr. Ron Haik, MBA, CFP,FMA, FCSI, CSWP™, is the vice-president of Investment Advisory Services at CDSPI Advisory Services Inc. Email: investment@cdspiadvice.com |
*Calculation uses federal and provincial tax rates for Ontario residents as of November 1, 2012.