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Strategies and Tips

Using spousal RSPs

By now you probably know the value of investing in an RSP, both as a savings vehicle for your retirement and as an efficient means by which to defer taxes on your income. You may also know about the advantages of income splitting, although most Canadians have limited opportunities to transfer income from one spouse to another if both are salaried employees.

Spousal RSPs are one of the only practical means of income splitting for such couples; they can help defer taxes right away, and reduce taxes in retirement. If one spouse has a significantly higher income now, or expects to have a significantly higher retirement income, you should consider taking advantage of a Spousal RSP right away.

What is income-splitting?

Income-splitting is a way to reduce a family's overall tax bill by shifting the income or capital gains from a higher-income earner to one or more lower income earners so that the same amount of income is taxed at a lower rate or not at all if the lower income earner's income is low enough.

Other benefits of income-splitting

Income-splitting also provides benefits when calculating your Old Age Security (OAS) benefit and any potential clawback you might face. The OAS program currently requires a repayment of benefits (or clawback) once your personal income exceeds $53,215. If you and your spouse can keep your respective income level below that threshold through income-splitting, you can avoid any clawback.

How to equalize income in retirement with a Spousal RSP

Spousal RSPs allow a couple to create a retirement fund for both partners. A taxpayer may choose to contribute to their own personal RSP or to an RSP in their spouse's name while claiming the contribution as a deduction on their own tax return. The immediate benefit to the contributor is the tax deduction, however, in the long term the overall family tax bill will be reduced as income will be available for withdrawal by each spouse during retirement.

As of January 1, 1993, Canada Customs and Revenue Agency revised the definition of spouse to include common-law spouses. If you have lived in a conjugal relationship for one year or more, or live together and have a child, you can make a spousal RSP contribution.

Your spousal RSP contribution, when combined with your personal RSP contribution, may not exceed your personal RSP deduction limit. For example, let's look at John who earns $50,000 a year. Based on the current contribution limit of 18% of previous year's earned income, John may contribute $9000 to an RSP. He can contribute the whole $9000 to his personal RSP, or $9000 a spousal RSP or a portion to each RSP as long as the total amount contributed does not exceed $9000. (Assuming no carry-forward of unused contributions or over-contributions.)

A spousal RSP is also a way to defer taxes if you are no longer able to contribute to a personal RSP due to your age. As long as your spouse is 71 or younger, you can contribute to their Spousal RSP and still claim the tax deduction.

The three year attribution rule

It is important when considering spousal RSPs to understand the impact of the three year attribution rule. This rule is designed to prevent a high-income spouse from contributing to a spousal plan and having the funds almost immediately withdrawn and taxed to the lower income earning spouse. If your spouse withdraws from their spousal RSP within three calendar years of your last contribution to any spousal RSP, the withdrawal is treated as income on your personal tax return. If the withdrawal is made more than three years after the contribution, the withdrawal is treated as income on your spouse's tax return. The important thing to note is that the three years are based on calendar years. If your last contribution was made in December 1998, a withdrawal is taxable as your income until January 2001.

If the contribution were made in January 1999, even if it is applied to your 1998 tax return, a withdrawal before January 2002 would be taxable as your income.

The three year rule does not apply in the following cases:

  • The spouses are living apart due to marriage breakdown
  • Death of the contributing spouse in the year a withdrawal is made
  • Either spouse becomes a non-resident of Canada for tax purposes
  • If the money is transferred to an annuity
Note: If you convert your spousal RSP into an RRIF, you are only allowed the minimum withdrawal until three years after the last contribution. Any withdrawals above the minimum will be taxed as income on the contributor's tax return.

A spousal RSP offers Canadians an opportunity to work within the graduated income tax system in order to minimize a household's overall tax burden in retirement. By equalizing each spouse's retirement income, the overall tax bill is reduced by keeping both spouses in a lower tax bracket.

This is one of the few income-splitting options still available to Canadians, and it is beneficial when most people need it - in retirement.