When planning for the future, we often focus on how our Registered Retirement Savings Plan (RRSP) will support us during our retirement years. However, a crucial part of comprehensive financial planning is understanding what happens to those hard-earned savings when you pass away.
The tax implications can significantly impact the legacy you leave behind for your loved ones. Here is a breakdown of how an RRSP is taxed at death and the planning opportunities available to you.
The General Rule: Deemed Disposition
Whether your RRSP is “unmatured” (you haven’t started drawing an income from it yet) or “matured” (it is currently paying you a retirement income), the Canada Revenue Agency (CRA) applies a general rule upon the death of the annuitant.
You are deemed to have received an amount equal to the Fair Market Value (FMV) of all the property held within the RRSP immediately before your death. This entire amount is then included as income on your final, terminal tax return. Because RRSP withdrawals are fully taxable, this can push your final income into the highest marginal tax bracket, resulting in a substantial tax bill for your estate.
The Spousal Exception: Tax Deferral
Fortunately, there is a major exception to this general rule that allows for a tax deferral. If you name your spouse or common-law partner as the sole beneficiary of your RRSP, the funds can be transferred to them without triggering an immediate tax liability for the deceased.
How it works:
- The spouse receives the FMV inclusion in their income.
- The RRSP property is directly transferred to the spouse’s own registered plan (like an RRSP or RRIF) or used to purchase an eligible annuity by December 31 of the year following the year of death.
- The spouse receives a receipt for the transfer, which offsets the income inclusion.
This effectively defers the tax until the surviving spouse eventually withdraws the funds from their own plan.
What if You Don’t Have a Named Beneficiary?
If you do not name a beneficiary on your RRSP, the assets will fall into your estate and be distributed according to your will. This means the assets will be subject to probate fees (Estate Administration Tax), which vary by province.
However, if your will names your spouse as the beneficiary of the RRSP assets, your legal representative and your spouse can still jointly elect to have the spouse become the successor annuitant or transfer the funds to their registered plan, preserving the tax deferral.
Options for Dependent Children and Grandchildren
If you do not have a surviving spouse, you can still find tax relief if you leave your RRSP to a “qualifying survivor.” A qualifying survivor includes a financially dependent child or grandchild.
If the RRSP funds are paid to a qualifying survivor, the amount can qualify as a “refund of premiums.” This means the income is taxed in the hands of the child or grandchild, who typically has a much lower marginal tax rate than the deceased.
- For a minor child/grandchild: The funds can be used to purchase a term annuity that pays out until they reach age 18, spreading the tax liability over several years.
- For a physically or mentally impaired child/grandchild: The funds can be rolled over on a tax-deferred basis into their own RRSP, Registered Disability Savings Plan (RDSP), or an eligible annuity.
The Importance of Beneficiary Designations
One of the simplest and most effective estate planning tools is keeping your beneficiary designations up to date. Naming a beneficiary directly on your RRSP contract ensures that the funds bypass your estate entirely. This means the money goes directly to your loved ones without being subject to probate fees or the delays associated with settling an estate.
A Word of Caution: While the beneficiary receives the RRSP funds directly, the tax liability for the RRSP still falls on the deceased’s estate. If the estate does not have enough other assets to pay the tax bill, the CRA can hold the beneficiary jointly liable for the taxes owed.
Take Control of Your Estate Plan
Taxation at death cannot be avoided entirely, but with proactive planning, it can be deferred or minimized. Reviewing your RRSP beneficiary designations after major life events—such as marriage, divorce, or the birth of a child—is essential to ensure your wishes are carried out efficiently.
At Safe Haven Financial, we are here to help you navigate the complexities of estate planning and ensure your wealth is protected for the next generation. Contact us today to review your registered accounts and build a strategy that works for you and your family.
Disclaimer: This article is for informational purposes only and does not constitute legal or tax advice. Tax legislation is subject to change. Please consult with a qualified tax professional or financial advisor regarding your specific situation.
