How to ensure your estate is not heavily taxed at death

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In an increasingly complex world, the Financial Post should be the first place you look for answers. Our FP Answers initiative puts readers in the driver’s seat: You submit questions and our reporters find answers not just for you, but for all our readers. Today, we answer a question from a frustrated senior about how to ensure his estate is not heavily taxed at death.

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By Julie Cazzin with John De Goey

Q. How do I minimize taxes for my kids’ inheritances? My tax-free savings account (TFSA) is full. Mandatory yearly registered retirement income fund (RRIF) withdrawals elevate my pension income, which raises my income taxes. I moved to Nova Scotia from Ontario in mid-November 2020 and was taxed at Nova Scotia rates for all of 2020, even though I was only in Nova Scotia for a month and a half. Taxes are much higher in Nova Scotia than Ontario. Why doesn’t the Canada Revenue Agency (CRA) prorate income taxes when you change provinces at the end of the year like that? It seems unfair to me. Also, when I die, my RRIF investments will be treated by CRA as sold all at once and become income for that one year so that income and taxes will be higher and the government will take a huge chunk of my offsprings’ inheritance. Bottom line, I love our country but we’re taxed to death and much of what governments take is then wasted. It doesn’t pay to have been a saver in this country because you’re penalized for that supposed ‘virtue.’ — Frustrated Senior

FP Answers: Dear frustrated senior, there’s only so much you can do to minimize taxes upon your demise. Also, I’ll leave it up to CRA to explain why they do not prorate provincial tax rates when there’s a change of residency. The best most advisors could do in this instance is to conjecture about CRA’s motives.

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The short answer is likely one that involves paying a little more in annual taxes now to have a significant amount of relief on your terminal, or final, tax return. You could withdraw a little more than the RRIF maximum every year, pay tax on that amount, and then contribute the excess (the money you don’t need to support your lifestyle) to your TFSA. Adding modestly to your taxable income would likely feel painful at first, but it could pay off nicely over time. Speaking of which, note that if you live to be over 90 years old, the problem is not likely to be that significant either way, since much of your RRIF money will have already been withdrawn and the taxes due on the remaining amount would be modest. Basically, a great way to beat the tax man is to live a long life.

Here’s an example. Let’s say that every year, starting in 2024, you withdraw an extra $10,000 from your RRIF. Assuming a marginal tax rate of 30 per cent, that will leave you with an additional $7,000 in after-tax income. You could then turn around and contribute that $7,000 to your TFSA to shelter future growth on that amount forever. If you live another 14 years, you’ll have sheltered almost $100,000 from CRA — and the growth on those annual $7,000 contributions could amount to a number well into six-digit territory. If you do this, that six-digit amount would not be subject to tax. If you don’t, it will all be in your RRIF and taxable to your estate the year you die — likely at a very high marginal rate.

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This strategy will require consideration of your tax brackets (now and down the line), as well as entitlements, such as Old Age Security and others. Everyone’s situation is different, and I don’t know if you have a spouse, what tax bracket you’re in, if you have other sources of income, how old you are, or how much is in your RRIF currently. All these are variables that make the situation highly circumstantial. This approach may work for you, but it may not. Hopefully, there are enough readers in a similar situation that they can at least explore whether to pursue this with their advisor down the road.

John De Goey is a portfolio manager at Designed Securities Ltd. (DSL). The views expressed are not necessarily shared by DSL.

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