The article “How to Handle Your RRSP in a Second Marriage” was originally published on The Financial Post on January 20th 2015.
Second marriages make financial planning more complicated on several levels, including how to combine your existing finances and how to set mutual financial goals. Registered plans, including registered retirement savings plans, registered pension plans (RPPs or defined contribution/DC pensions) and locked-in retirement accounts, all require special attention for both partners in a second marriage.
Anyone who has been divorced knows that net family property, including RRSPs, is generally subject to division in the event of a marriage breakdown. Broadly speaking, the assets amassed by a couple during their marriage are divided equally, subject to certain exceptions. There may be adjustments for the deferred taxes on RRSP accounts. And if one spouse owes the other spouse money upon determining an equalization payment, RRSPs can be transferred between spouses on a tax-free basis. If you want to protect your assets in a second marriage, RRSPs included, you may want to consider a marriage contract or pre-nuptial agreement.
On the other hand, if you are going to co-mingle your finances and plan things in the most efficient manner as a new couple, spousal RRSP contributions are worth considering, in particular if one of you is in a higher tax bracket and has more retirement assets.
Spousal contributions are based on eligible RRSP room for the spouse making the contribution. The tax deductions are allowed for the contributor, but the RRSP contributions are deposited into an account in the other spouse’s name so that they may withdraw these savings in the future and be taxed on those withdrawals.
The idea behind spousal RRSP contributions is that you may not want to make RRSP contributions to a lower-income spouse’s personal RRSP. But the higher-income spouse can make contributions to the lower-income spouse’s spousal RRSP and get the resulting tax deduction. Ideally, if you can generate similar incomes for both spouses in retirement, you can minimize your tax in retirement as a family. And balancing your respective RRSP and pension assets with spousal RRSP contributions is a way to do it.
In 2007, pension income splitting was introduced to allow retirees to split certain eligible “pension” income on their tax filing, which includes RRSP withdrawals after the age of 65. This made spousal RRSPs less important, but spousal RRSPs still play a role, given that legislation can change at any time. Beyond that, they give you more flexibility in your planning.
Although it can be easy to fall into a “what’s mine is mine, what’s yours is yours” mentality in a second marriage, it’s important to note that spousal RRSPs are treated the same way as personal RRSPs in the event of a divorce. So a contributing spouse need not worry that they are giving away “their” money.
When you’re approaching or into retirement, I encourage couples to look at all of their different nest eggs to try to determine the best place to withdraw money from to fund their retirement. Especially in a second marriage, the default is sometimes an equal contribution by both partners, when the better long-run solution might be to withdraw from one spouse’s accounts instead of the other’s — RRSPs included. So an integrated approach can pay off in the long run.
When it comes to your estate planning, RRSPs can play a strategic role in second marriages. When you’re trying to determine which assets you want to go to whom on your death, you might want to consider leaving some or all of your RRSP to your spouse. Although RRSPs are generally fully taxable on death, they can roll over to your spouse’s RRSP tax-free. In some provinces, leaving your RRSP to your kids can result in as much as 50% tax, or even as high as 65% in certain circumstances when you’re over the age of 65 and receiving Old Age Security.
If you want to leave assets to your spouse as well as to your kids or someone else, you might consider leaving certain assets, like RRSPs, to your spouse, while leaving other assets to other beneficiaries.
RRSPs create financial complexity in a second marriage. Mind you, second marriages create financial complexity period. Consider how you contribute to RRSPs, how you withdraw from them and what you do with them when you die. A bit of planning can turn complexity into a tool to help you accomplish your retirement, tax and estate goals.
Jason Heath is a fee-only Certified Financial Planner (CFP) and income tax professional for Objective Financial Partners Inc. in Toronto, Ontario.