Retirement for two: Unlocking the tax-saving power of a spousal RRSP

Living your life with a loved one has its financial perks. Some are obvious, like sharing expenses and pooling income, but others, like the spousal Registered Retirement Savings Plan (SRRSP), can be easily overlooked. Don’t miss out on this opportunity to save and lower your household tax bill.

What is a spousal RRSP?

A spousal RRSP (SRRSP) is a variant of the tax-advantaged RRSP. It allows a higher-earning spouse or common-law partner to make contributions to an SRRSP for which the lower-earning partner is the annuitant. The SRRSP contribution is deducted from the higher-earning partner’s taxable income – resulting in a tax refund for the higher earner – while withdrawals (usually in retirement) are taxed in the hands of the spouse, who will be in a lower tax bracket.

The ultimate goal of this strategy is to ensure the couple each has roughly an equal amount invested by the time they retire. By reducing their income disparity, the household reduces its effective tax rate.

Understanding tax bracket optimization

We have a progressive tax system in Canada. That means tax rates go up as personal income increases. Federal taxes on any income you earn in 2024, for example, are 15% on your first $55,867 of income. If you earn more than $246,752, however, your marginal rate – what you’ll pay on the last dollars you earn in 2024 – rises to 33%. It’s worth noting that the top marginal rate could be over 50% when you consider provincial and federal income tax.

In some cases, if there is a large income gap between you and your spouse, you could end up with a combined higher tax bill than a couple with the same household income who earn roughly the same as each other.

A spousal RRSP helps close the gap in two ways, now and in the future. First, it enables the higher-earning spouse to lower his or her taxable income in the year they contribute, just as contributions to a regular RRSP would. Second, it evens out the couple’s income in retirement, so that the couple both end up in a similar tax bracket – paying a similar amount of tax and a combined lower tax bill.

Rules for spousal RRSPs

The spousal RRSP belongs to the lower-earning spouse, known as the annuitant, who makes the investing decisions. Contributions to the SRRSP are made by the higher-earning spouse, or contributor, and are based on that person’s RRSP contribution room.

This is handy, because the SRRSP deduction will reduce the higher-income earner’s taxable income and reduce their taxes owing.

Note that combined contributions made by the contributor to the spousal RRSP and to his or her own RRSP in any given year must not exceed the contributor’s total available RRSP contribution room, or the contributor could face penalties.

The contributor can continue adding funds to the SRRSP until December 31 of the year the younger of the two turns 71, which may allow the pair to extend the tax-sheltering benefits of the account past the contributor’s own RRSP conversion deadline (the point at which RRSPs must be rolled over into a Registered Retirement Income Fund or annuity).

The annuitant can withdraw funds from the spousal RRSP before age 71, but those funds could be taxed in the contributor’s hands if the withdrawals were made within two calendar years plus the remainder of the year in which the last contribution was made to the account. These attribution rules don’t apply to minimum withdrawals from a RRIF, but they will apply to anything over the minimum.

Other benefits of spousal RRSPs

• If the lower-earning spouse does not already have an RRSP, using a spousal RRSP effectively doubles the funds the couple can potentially withdraw to make a home purchase under the Home Buyers’ Plan, assuming the couple is buying their first home. As of April 16, 2024, an individual can “borrow” up to $60,000 from an RRSP to buy a qualifying home; together, a couple has access to as much as $120,000.
• Using an individual and spousal RRSP likewise doubles the amount the couple can withdraw to fund higher education as part of a Lifelong Learning Plan to $20,000 from $10,000.
• By shifting income from a higher income earner to a lower income earner, both spouses are in a better position to collect the income-tested retire benefits such as Old Age Security and Guaranteed Income Supplement.
• As with other registered accounts, you can name a beneficiary who, if you pass away, will get your assets immediately and without being subject to estate taxes and probate fees. (When the surviving spouse is the named beneficiary, the SRRSP can be transferred to the surviving spouse on a tax-deferred basis and avoid probate).
• If the deceased person still has RRSP contribution room upon their passing, the surviving spouse’s legal representative may make an additional SRRSP contribution out of their estate up until the RRSP deadline for the year of death. This can reduce estate taxes.

Splitting your RRIF income

In addition to the SRRSP to reduce taxes, you can split up to half your pension income with a spouse or partner. This includes money held inside a RRIF or SRRIF. Pension splitting can also come in handy to reduce combined taxes of spouses.

Tax efficiency two ways

As a wealth-building tool, a spousal RRSP is useful for couples. It combines the tax-deferring advantages of an RRSP with income splitting, which can lower your household tax bill.