IRA or RRIF Withdrawals?

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Question

If I’m thinking of taking distributions from my IRA or RRIF in excess of my required minimum distributions which should I pull from first? My RRIF or IRA?

Answer

I get this question a lot, and of course, like all things tax and investment related the answer to the question depends on the specifics of your individual situation, however some general considerations should be reviewed.

Although IRA and RRIF accounts do have their similarities they do have quite a few differences as well.

When reviewing which account you should be withdrawing excess funds from you’ll want to review the following items:

Unlike RRIF accounts IRA accounts can be passed down to non-spouse beneficiaries tax-free

Although you can inherit your RRIF account from your spouse on a tax-free rollover basis when they die, the RRIF account will be fully taxable in the hands of the second spouse when they die and distribute their estate to their non-spouse heirs. IRAs on the other hand can get distributed to non-spouse beneficiaries tax-free and will not be required to be included on the taxpayers final return upon death. Although new US tax rules will only allow the beneficiary to defer the full amount of the IRA account for another 10 years, the tax deferral benefits for an this additional 10 years can be significant. Especially considering if the beneficiary is in a low tax bracket.

In cases like these it might make sense to draw down you RRIF first to allow for more of the IRA to eventually be distributed to non-spouse beneficiaries. In cases where the future beneficiary’s tax rates are quite low compared to the current owner of the account it might make sense to skip the spouse and name the non-spouse beneficiary as the beneficiary of the account initially.

It will depend however whether the beneficiary is either a Canadian tax resident, a US tax resident or an American living in Canada. Americans living in Canada will pay the higher of their Canadian tax or American tax rate on the IRA income (after respective foreign tax credit calculations). Americans living in the US will simply pay US tax at their average US tax rate on the IRA distribution. Canadians receiving distributions from an IRA will pay a minimum 15% US tax on the IRA distributions. Therefore, if their Canadian tax rate is less than 15% they will always pay at least 15% on the distributions.

Unlike RRIF payments, IRA payments cannot be split with spouses

For Canadian income tax purposes certain pension payments are eligible to be split with your spouse. Specifically excluded from the “split pension rules” are US IRA distributions. Therefore, if you’re thinking of pulling out excess capital from your RRIF or IRA accounts, and your spouse’s income is lower it would be much more advantageous to withdraw RRIF amounts compared to IRA amounts. Hence another reason to first draw down the RRIF compared to the IRA.

As you can see from the tax differences above with respect to IRAs and RRIF in most cases it makes sense to draw down on you RRIF first in order to leave as much of the IRA in tact for either your surviving spouse or future beneficiaries.

If you want to chat about this further or need help planning for your cross-border investments (registered or non-registered), please feel free to reach out.

Cheers

Phil

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