RIFF’s, Death, and TAX

Recently, a couple in their mid-80s came to me for help with their taxes.
They have:

• Over $500,000 in a Registered Retirement Income Fund (RRIF)

• A paid-off home

• Pensions that give them more than enough income to live comfortably

Their big goal is to leave as much money as possible to their three children.

Here’s the problem:

• When one spouse dies, the RRIF can pass to the other spouse with no tax right away.

• But when the second spouse dies, the RRIF is treated as income and can be taxed at up to 53.5% in Ontario.

At age 85, the government requires them to withdraw at least 8.51% of their RRIF each year. That’s about $42,550. If they both pass away before age 92, there could still be hundreds of thousands of dollars left, and more than half of it could go to taxes instead of their children.

For example, if they both passed away at age 89, there could be around $300,000 left in the RRIF and a tax bill of about $160,500.

The Fix

Instead of only taking the minimum, they can withdraw more now in a smart way. This may mean paying a bit more tax each year, but it can reduce the total tax bill over their lifetime, and leave more money for their kids.

This is something that should be caught during the financial planning process. The sooner you plan, the more options you have.

The KEY takeaways:

1. Understand the tax consequences of your accounts at death

2. Think lifetime tax bill versus annual tax bill

3. Understand your income versus expenses and what potentially could be left over.

A more Compelling reason for a Passive Approach

There is a lot of evidence that shows that active fund managers underperform the markets over the longer term. Saying active management beats passive investing over the long term is comparable to saying Tylenol causes autism. That said, there is a more compelling reason to go the passive route.

Time in the market with average returns is the winning formula to achieving your goals. If you achieve average returns for 30 years, you will rank in the top for investors. By having patience and discipline, you allow compound interest to have maximum impact on your investments, and you will increase the likelihood of hitting your goals. You don’t need to beat the market or find that one high-performing stock; just be average for 30 years.

Keep it simple and stress-free, and do it for a long time. Implementing a passive approach, typically with a low-cost, globally diversified, index-like fund for a long time, takes away guesswork and decision fatigue and significantly increases your chance of success. If there is a secret, this is it.

Why advice-only planning?

When I introduce myself as an advice-only financial planner, the first question is why. They ask the question for two reasons: 1. I have a license to offer investment management, life insurance, and can help with implementation. But in my advice-only role, I deliberately remove that part so clients know my only focus is the plan itself. 2. What is the difference between advice-only and engaging in planning with implementation?

First, we need to answer what advice-only financial or retirement planning is. It is comprehensive planning without a product. Regardless of the recommendations in the plan, advice-only planners will not offer or sell you products. No investment products, no life insurance sales. You are paying for advice and strategies in your best interest to help you achieve your goals. Advice-only plans typically cover: cash flow, retirement income, tax planning, estate strategies, and risk management. Commission-based advisors get paid commissions for selling products. Fee-based advisors get paid a fee plus sell products that pay commission. They typically get paid a direct fee or a percentage of assets under management.

Certified Financial Planners are regulated by FP Canada. We adhere to the Standards of Professional Responsibility.

Why is this important?

Compensation drives behaviour. You only need to watch the CBC investigation into bank practices. The employees in the bank make offers and recommendations to clients based on performance goals and compensation, not necessarily a solution based on customer needs.

Who uses advice-only planning?

DIY investors because they want to manage their investments but need help with other areas like taxes, insurance, decumulation, and estate planning.

Clients who do not want to move their investments and other products from where they currently are.

People want to limit the bias in the advice they receive.

People who do not have a large amount of assets understand that they need and want help. Many investment firms have minimum requirements for assets/investments to become their clients. Banks give attention and service to clients with minimal assets(often ignored). Some people have substantial assets in other forms, like real estate, who will benefit from planning. An example is someone who has rental properties and wants to start selling them and turning them into retirement income. They need help because of tax consequences and turning the proceeds into investments and an income source.

People who want a second opinion.

Clients who are more focused on retirement income planning or tax planning or estate planning.

People who want to reduce costs. Paying for a financial plan may cost more now, but you make it back and save money because you can achieve lower fees.

There is no one right way. I believe that most people would benefit from an advice-only plan because you are paying for the advice, and it gives you a road map for a higher likelihood of success. As Mike Tyson said, Everybody has a plan until they get punched in the face. The plan can help you take the punch, plan for the punch, and get back on track. And everyone gets hit, whether it’s a major health event, divorce (increasing at an alarming rate in seniors), job loss, etc.

Imagine walking into a bank and not knowing whether the recommendation is best for you or best for their sales target. Now imagine sitting with someone whose only job is to give you a clear, unbiased roadmap, and then you decide what to do with it.