Are You Taking Advantage of the Pension Income Tax Credit?
Written by Jim Yih
As many Canadians can attest, it’s not always what you earn that counts, it’s what you get to keep. This is especially true if you are currently retired or are planning to retire in the near future. To make the most of your retirement income, it makes sense to become familiar with the numerous tax credits that are made available through the Canada Revenue Agency (CRA). One of those tax credits is the Pension Income Tax Credit.
What is the Pension Income Tax Credit?
The Pension Income Tax credit is available to you if you are 55 years of age or older. Basically, it enables you to deduct, from taxes payable, a tax credit equal to the lesser of your pension income or $2,000.00. Depending on which province you live in, this equates to $440-$720 in actual tax savings each year.
The pension income tax credit is non-refundable and may not be carried forward each year. In other words, you need to use it or lose it.
In order to claim the credit, the taxpayer must be in receipt of certain specified income. The definitions of “pension income” are therefore important.
What is eligible pension income?
Eligible pension income depends on your age. If you were 65 or older in the year, pension income includes:
1. Income from a superannuation or pension fund
2. Annuity income out of a RRSP or a Deferred Profit Sharing Plan (DPSP)
3. Income from a Registered Retirement Income Fund (RRIF)
4. Interest from a prescribed non-registered annuity
5. Income from foreign pensions
6. Interest from a non-registered GIC offered by a life insurance company.
If you are younger than 65 for the entire year: Pension income includes:
1. Income from a superannuation or pension plan
2. Annuity income arising from the death of your spouse under a RRSP, RRIF, DPSP
What is not eligible pension income?
· Investment income from market based investments
· Interest income from GICs with banks, trust companies and credit unions
· OAS and CPP
· Lump sum death benefits
· Lump sum withdrawals from RRSPs
· Retiring allowances
Tax planning strategies involving the pension income credit
If you are over the age of 65 and you are not part of a superannuation or pension plan, you may be able to create qualified pension income to save taxes.
1. Transfer RRSP to a RRIF. At age 65 transfer $12,000 to a RRIF and take $2000 out per year from age 65 to 71(inclusive). This essentially allows you to get $2000 out of your RRSP tax-free for 6 years. Whether you need the income or not, it is an opportunity you do not want to miss.
2. Transfer Locked-in Retirement Account (LIRA) assets to a Life Income Fund (LIF) and then annuitize. In most cases, you can transfer your LIRA to a LIF or LRIF once you reach the age of 55. To make the most of this strategy, you must transfer the LIRA to the LIF and then to an annuity in order for the income to be reported as eligible pension income. If you purchase the annuity directly from the LIRA, the annuity is considered a RRSP annuity, which only qualifies for the pension income credit after age 65.
3. Buy a GIC from a life insurance company. If you do not have any qualifying pension income, are age 65 or over, and do not want to draw down your registered assets at this time, there is a relatively easy way to make a GIC qualify for the Pension Income Tax Credit. Simply purchase a GIC through a life insurance company because it is considered eligible pension income. To determine how much principal you would require to be able to claim the full credit, divide $2,000 by the applicable interest rate for the term you want. For example if you wanted a 5-year term and the current annual rate was 4.0% you would need to invest $50,000 (2000 divided by 4.0%=$50,000).
4. Transfer of Unused Credit to a Spouse. Unused pension income credit is transferable to a spouse or common-law partner. The ability to transfer this credit should be explored in circumstances where one spouse is earning pension income in excess of $2,000, and the other spouse is not otherwise fully utilizing his or her pension income credit.
If you are over the age of 65, take a look at line 314 in your tax return to see if you are taking advantage of the Pension Income Tax Credit. If not, consider one of these tax savings strategies.