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How to Pay Less Tax with Pension Income Splitting Thumbnail

How to Pay Less Tax with Pension Income Splitting

Retiring means living on a fixed budget. You know exactly how much money you’re going to get in a year, so you can plan your expenditures accordingly. But this lack of wiggle-room can make it difficult to create space in your budget for everything you want to see and do throughout the year – especially for those unforeseen expenses.

Pension Income Splitting can help you lower your tax burden and open up your finances, even when your income is fixed.

With the information below, we’ll help you understand if you (or your spouse) are eligible for Pension Income Splitting, as well as which of your income streams you can utilize to help lower your taxes.

Pension income splitting explained

Much like regular income splitting, pension income splitting allows you and your partner to share the income tax burden. With pension income splitting, partners can transfer up to 50% of their income to their spouse or partner. 

If utilized correctly this can lower the tax burden by putting the transferring partner in a lower income tax-bracket while leaving the receiving partner’s tax bracket unchanged.

Are you and your partner eligible?

There are a number of stipulations required for couples and revenue streams that must be met for pension splitting. 

For you and your partner to qualify for pension income splitting, you must both reside in Canada and live together at the end of the year. 

While there is no leeway with Canadian residences, there is some latitude when it comes to cohabitation. A couple who lives apart as a result of schooling, work, or out of medical necessity, can still transfer pension income. 

However, if at the end of the year you live apart due to a break-up, you cannot split your pension. Also, if you’ve lived apart from your spouse or partner for 90 days or more throughout the year due to a falling out, you are no longer eligible for income splitting.

The good news is, there are no age restrictions on pension splitting. That means you can pension split with your partner even if they are under retirement age.

Is your pension eligible?

Not all pensions are eligible for income splitting. The pensions available vary based on the pensioner’s age and the type of pension they have.

From age 55 to 65, pensioners have less options for pension splitting. For the most part, that includes any defined benefit pensions, or eligible foreign pensions that are taxable in Canada. It also includes:

  • Certain life annuity payments
  • Money received upon the death of a spouse or partner (such as an RRSP or RRIF) 

For those 65 years or older, the above pensions are still available to pension split. However, your income splitting options expand to include:

  • RRSPs 
  • RRIFs
  • LIFs
  • Life annuities

Payments from the below pensions are not eligible for splitting regardless of age:

  • Old age security payments
  • Canada Pension Plan
  • Quebec Pension Plan
  • Foreign pension income that is tax-free in Canada due to a tax treaty
  • United States Individual Retirement Account (IRA) income
  • Payments from an RRIF transferred to an RRSP, another RRIF or an annuity

A step-by-step guide to pension income splitting

  1. You do not have to decide ahead of time whether you want to transfer income. The process is completely retroactive and is decided on, and put into practice when you and your partner/spouse do your taxes.
  2. If you’re unsure which partner should transfer how much should be transferred, or if you should transfer any income at all, talk to an accountant. They will be able to help you decide on the amount of income that will benefit you the most.
  3. Once everything has been decided, both partners must fill out the T1032, Joint Election to Split Pension Income Form.
  4. Attach Form T1023 to both partner’s tax return and file.

Pension income splitting can only be used once per year, per couple. If both spouses/partners have eligible pension income, talk to your accountant to determine the most effective way to split your pension. 

Expand your retirement budget and pay less tax with pension splitting

Before you decide to go through the whole process to split your pension income with your spouse or common-law partner, make sure that you are making the right choice. If you can duck into a lower tax bracket, without increasing the tax bracket of your partner too much, pension income splitting will work to lower your tax burden. However, it can also result in a net-zero change to your taxes.

For more information on pension splitting, contact Bayview Financial today.