How and when to withdraw from RRSP and TFSA
What a journey it’s been.
I’ve been writing about personal finance and investing for almost 15 years now – chronicling my path to semi-retirement and financial independence. But the time has come to consider how and when to withdraw from my RRSP and TFSA.
Should RRSP assets be withdrawn first?
Should I withdraw from my TFSA to live-off tax-free dividends and distributions to some degree?
When should I consider withdrawing from other accounts?
Read on for my thoughts, the tax implications and more, including what might apply to your portfolio.
How and when to withdraw from RRSP and TFSA
In profiling my financial independence journey, most of my content has been about asset accumulation. The goal? To build an ever growing income stream for semi-retirement. Here are some examples:
This is my comprehensive Financial Independence Plan.
However, the time has come to consider, I mean strongly consider, how I’m going to enjoy the fruits of my labour so to speak. 🙂
In some recent posts, I’ve started to discuss the emotional readiness needed for semi-retirement. I wrote about moving well into my anticipation-phase now, pondering what the next phase of my life might mean.
Am I an entrepreneur? A consultant? A cyclist? A golfer? A traveller? A craft beer enthusiast?
All the above and more maybe…
How I got this far
When it comes time to withdraw from my/our portfolio, I am keeping two key things in mind:
- How best to meet my income needs.
- How best to withdraw from my portfolio with tax efficiency in mind.
Unlike other retirees, there is no desire for us to leave anything substantial for the estate. Sorry family!
To fulfill #1 and #2 above, we have the following assets to consider in no particular order of portfolio value:
- x1 – my defined benefit pension plan from work (about 21 years in at the time of this post).
- x1 – my wife’s defined contribution pension plan from work (also about 20 years contributed).
- x1 – my Locked-In Retirement Account (LIRA).
- x2 – RRSPs.
- x2 – TFSAs.
- x1 – taxable account.
- x1 – corporation; soon to be corporate investment account.
Figuring out the most efficient withdrawal strategy amongst these 9 accounts depends on many factors and I believe it requires some decent financial planning software to get the best answer. There are however some great, free retirement calculators to consider here.
Here are some considerations and key options I’ve been thinking about when it comes to my drawdown order.
1. My defined benefit pension
My wife and I are both very fortunate to have some workplace pensions to draw from in our future. My pension is a defined benefit (DB) pension plan. That means my future benefits (income) is defined.
That said, I might commute my pension. In fact, I might be forced to.
I’ve been contributing to this plan with the following formula:
1.6% x your Best Average Earnings x years of pensionable service.
Here are my pension terms, word-for-word:
So, while my DB pension benefit can be received as early as age 55 with a reduction, (reduced by 0.4% per month prior to age 60; reduced by 0.3% per month between ages 60-65), I really need to consider the pros and cons of keeping my assets invested in the plan.
My best guess is the pension value might be worth closer to $30,000 per year when I retire. The pension is also indexed to 75% of CPI when less than 2%, indexed to a maximum of 5.5% of CPI should I retire at age 55. There is a 66.6% survivor benefit to consider as well.
2. My wife’s defined contribution pension
My wife has a defined contribution pension plan. That means her contributions are defined but her income benefits in retirement are not. We have her portfolio invested in as many indexed funds as possible – which have served her well. Her portfolio returns since inception (about 20 years) are north of 7%, which includes a 30% fixed income component. Her 10-year returns are 10.4%.
We’re optimistic her DC pension could be worth a few hundred thousand at the time of semi-retirement. That money would be moved from the employer pension to a LIRA, then to a LIF at age 55 to open the income taps.
If we decide to semi-retire from the workforce in the coming years (that’s the plan) we’ll need money to close the income gap between leaving full-time work and when these pensions kick in.
3. My LIRA
With a few exceptions, you can’t withdraw money from your Locked-In Retirement Account (LIRA) before you retire. It’s not really possible to add more to this account either.
LIRAs are actually hard to come by. You can’t get a LIRA unless one of the following occurs:
- You have a workplace pension plan and you move jobs (voluntarily or involuntarily), your pension money from your former employer’s pension plan goes into a LIRA. If you have a LIRA it’s because you were part of a pension plan with a previous employer, OR
- You receive money from your former spouse’s employer pension plan, during the division of assets when you divorce, for example.
Is a LIRA different than an RRSP?
Yes but also no.
The “yes” side of this equation is that the RRSP is a tax-deferred savings plan designed to help Canadians save for retirement. As you know, contributions to an RRSP are voluntary; there are maximum RRSP contribution limits and while there is no tax on the growth of the investments inside the RRSP, tax is however paid when money is withdrawn from the RRSP or its future-state successor, the RRIF.
A LIRA is similar in that it allows you to transfer the funds accumulated in a former employer’s pension plan to an individual, tax-sheltered plan. The challenge with the LIRA is you can’t really make contributions to this account or withdraw money from it before retirement*
*There are however some cases instances/cases that can apply to financial hardship.
With my LIRA, I cannot make withdrawals and there are no big lump sum withdrawals from LIRAs like you can do with an RRSP. If you want money from a LIRA, generally speaking, you must move the money into a Life Income Fund (LIF) or Life Annuity. As long as assets stay within the LIRA or LIF there is no taxation. Tax is however payable on the withdrawals or income generated – that means the LIRA to a LIF and RRSP to a RRIF are very similar.
At age 55, my plan is to “unlock” LIRA assets as much as I can, and move unlocked assets to my RRSP and then start the LIF to slowly draw down the remaining LIF assets over time. That income stream will be quite small however given my LIRA is under 6-figures.
4. Our Registered Retirement Savings Plans (RRSPs)
You are also likely aware that the RRSP and TFSA are essentially mirror-images:
|A tax-deferral plan.||A tax-free plan.|
|Contributions can be made with “before-tax” dollars as part of an employer-sponsored plan or “after-tax” dollars when a contribution is made with a financial institution.||Contributions are made with “after-tax” dollars. |
|Contributions are tax deductible; you will get a refund roughly equal to the amount of multiplying your contribution by your tax rate.||Contributions are not tax deductible; there is no refund to be had.|
|If you don’t contribute your maximum allowable amount in any given year you can carry forward contribution room, up to your limit.|
|If you make a withdrawal, contribution room is lost.||If you make a withdrawal, amounts withdrawn create an equal amount of contribution room you can re-contribute the following year.|
|Because contributions weren’t taxed when they were made (you got a refund), contributions and investment earnings inside the plan are taxable upon withdrawal. They are treated as income and taxed at your current tax rate.||Because contributions were taxed (there was no refund), contributions and investing earnings inside the account are tax exempt upon withdrawal.|
|Since withdrawals are treated as income, withdrawals could reduce retirement government benefits.||Withdrawals are not considered taxable income. So, government income-tested benefits and tax credits such as the GST Credit, Old Age Security (OAS) and the Guaranteed Income Supplement (GIS) aren’t affected by withdrawals.|
|You can’t contribute to an RRSP after age of 71. Accounts must be collapsed in the 71st year.||You can contribute to a TFSA after age of 71.|
|The Summary: part of your RRSP is borrowed money.||The Summary: all of your TFSA is your money.|
Based on my personal investment plan, while I always feel the TFSA ultimately trumps the RRSP as a contribution retirement vehicle I will continue to contribute to both.
Over the last few years, I’ve become more savvy with retirement drawdown options.
Should I withdraw my/our RRSP assets first?
Should I withdraw from my/our TFSA to live-off tax-free dividends and distributions to some degree?
Based on my work with various clients and revisiting my own drawdown needs (for income and to minimize taxation), I believe I will leverage the following retirement draw down order:
“NRT“: that stands for Non-registered (N), RRSPs (R), TFSAs (T).
While I will slowly drawdown my non-registered account, living off dividends and distributions along the way, I intend to exhaust my RRSP assets before I have to in the year I turn age 71.
Further Reading: Why my plan to live off dividends remains alive and well.
In our 50s and 60s, we’re going to do something unconventional – we’ll start withdrawing assets from our RRSPs. This will help smooth out taxes given other assets we hold.
In doing so, we will slowly reduce the tax liability that is our RRSP/RRIF assets. Here is an example:
You can leverage this calcular and more, free, from my Helpful Sites page.
You might also want to consider this approach for your retirement. This way, you can consider deferring inflation-protected government benefits (Canada Pension Plan (CPP) and Old Age Security (OAS)) past the traditional retirement age of 65.
I/we will withdraw from our RRSPs likely once per year, at the start of the calendar year, by selling assets and/or through a combination of stopping our dividend reinvestment plans. Money not needed for living expenses will be moved into our TFSAs.
Our plan is to exhaust all RRSP/RRIF asests by age 80 if not sooner.
5. Our Tax Free Savings Accounts (TFSAs)
Love the account, hate the name! 🙂
The Tax-Free Savings Account (TFSA) is far more than a savings account, and unfortunately, many Canadians still cannot get over this fact. Check out these facts according to a recent BMO study:
- Although 73 percent of Canadians consider themselves knowledgeable about TFSAs, only half (49 percent) of Canadians are aware that a TFSA account can hold both cash and at least one of the other investments.
- Canadians primarily use their TFSA accounts for various financial goals, yet just 44 percent are using a TFSA for retirement savings.
While the TFSA can absolutely be used for short-term savings, earning tax-free interest while you’re at it, I’ve been using my TFSA since Day 1 for investing.
As we live off dividends from our non-registered account while slowly drawing down our RRSP/RRIF assets, I suspect we’ll avoid tapping our TFSAs until our elderly years. In fact:
We don’t intend to touch our TFSA assets in any early retirement years at all…
Instead, this will allow both TFSAs to compound over time. In our 70s, with RRSP/RRIF assets largely gone, our plan will be to live off tax-free income from our TFSAs and government benefits (CPP and OAS).
I’ve anticipated our TFSAs are likely going to be worth hundreds of thousands of dollars in the coming decades, which should be more than enough to fund senior care. So, our NRT drawdown order will support that.
For estate planning, I’ve always encouraged my readers to read the “fine print” when it comes to naming beneficiaries for your RRSPs, RRIFs, TFSAs and other key accounts.
Given TFSA assets can be passed along tax-free, this has always been my preference to make the TFSA one of the accounts to consider keeping “until the end”. Just make sure you read that link above and consider naming a TFSA successor holder.
6. Taxable investing
Passionate readers of this site will already know that I prefer keeping and growing any money tax-free (TFSA) and tax-deferred (RRSP) is always a great move before taxable investing.
With our TFSAs thankfully out of contribution room, after our RRSPs are ideally maxed out every year we also invest inside our taxable account.
As any savings for investing purposes permit, we will continue to invest inside our taxable account every year where possible.
7. Corporate account
I’m still quite new to managing my corporation but so far, it’s been helpful to avoid any taxation at my personal rate.
If you would like to know more about incorporation details, including how you might eventually pay yourself a salary or a dividend, check out these comprehensive posts below:
Should you take a salary or pay yourself a dividend from your corporation?
Regarding income from this corporation, I’m still undecided how I will manage that. I will let you know of course when I do!
What about government benefits???
Given our Canada Pension Plan (CPP) and Old Age Security (OAS) income benefits are secure, I tend to treat these government beneifts as “big bonds”. Even better, they are inflation-protected big bonds! So, I invest 100% equities for now.
Back to the premise of this post, here are some of my general rules of thumb when it comes to how and when to withdraw from the RRSP and the TFSA:
1. Withdrawing from your RRSP (early) can make great sense before other accounts. As outlined above, even though you do not need to collapse your RRSP until December 31 in the year you turn age 71 (i.e., you are forced to convert it to a RRIF, annuity, etc.), I believe drawing down the RRSP assets early has huge merit. For one, any large RRSP/RRIF balance is an estate liability. Two, if you draw down the RRSP/RRIF before the TFSA or other accounts, you can potentially live on RRSP/RRIF withdrawals before CPP or OAS kick-in. Three, if you did that, you have a considerable advantage to delaying CPP or OAS or both benefits until age 70 offerring the following:
- CPP offers a 42% income boost if you defer CPP benefits from age 65 to 70.
- OAS offers a 36% income boost if you defer OAS benefits from age 65 to 70.
2. RRIF income can be used for income splitting as much as possible. If you have a spouse, you probably already know the goal is to keep any personal income as equal as possible, but higher collectively, to maximize income and minimize taxes.
If you are age 65 and older, RRIF withdrawals are eligible for income splitting with a spouse for tax purposes, and to be eligible for the $2,000 pension tax credit per person.
3. Keep TFSA assets compounding away as long as possible = tax-free income is a wonder of our modern financial world! Keeping tax-free accounts intact does not impact any OAS recovery tax threshold.
The dreaded “OAS clawback” will see OAS income benefits reduced by 15% for every dollar above this threshold until it’s eliminated. So, if you want to keep your retirement income under this threshold AND maximize government benefits, a combination of deferring OAS and keeping your TFSA “until the end” is tax-savvy.
You can check out the various tax brackets in play related to OAS and other tax consequences here.
Needless to say, having any tax-efficient family income approaching $80k per person to avoid any OAS clawback would be phenomenal in retirement….
4. Spend dividends from non-registered accounts and any corporate portfolio before TFSAs. In my case, I hope to spend some tax-efficient Canadian dividends in semi-retirement, before touching my TFSAs. It is my hope I will also wind down any corporate account before I take OAS, likely by age 65 but that could be age 70. Otherwise, the sum of taxable dividends, corporate portfolio withdrawals amongst other income sources could trigger that OAS clawback I mentioned above.
How and when to withdraw from RRSP and TFSA summary
With so many accounts and combinations as part of these accounts to consider when it comes to RRSP and TFSA management, I can appreciate this is a puzzle for many to navigate.
In closing, consider the following for how and when to withdraw from your RRSP or TFSA:
- Be strategic with RRSP/RRIF income – strive to smooth out taxes and withdraw your RRSP/RRIF assets in your lowest income years for as long as possible.
- Consider winding down taxable accounts, slowly, since dividends and capital gains is an efficient form of taxation.
- Avoid hoarding all RRSP/RRIF assets until your 70s, when you are forced to generate RRIF income or annuity income.
- Leave TFSA assets intact for as long as possible.
- Delay CPP or OAS or both.
With my guidelines in mind, while these will not apply to every retiree or semi-retiree, I think you’ll be in a fine place to minimize taxation, maximize income needs, avoid OAS clawback issues (if in doubt), provide inflation-protected longevity to your portfolio, and help your estate planning and wealth transfer plans for future generations.
I look forward to sharing some detailed case studies about these points above over time on my site to help you and every Canadian make the most of our your DIY retirement planning.
A reminder if you stick to any “4% rule” you might finish with almost X3 wealth on top of a lifetime of spending using the 4% rule. Don’t save money only to hoard RRSP/RRIF money forever!
Instead of focusing on the 4% rule, you can drawdown your portfolio via Variable Percentage Withdrawal (VPW).
An article about creating a cash wedge as you open up the investment taps.