Minimizing Taxes on Retirement Income

Retirement should be about enjoying life, not worrying about taxes eating away at your hard-earned savings. Yet many Canadians unknowingly pay thousands more in taxes than necessary simply because their investments are in the wrong accounts. In this episode, I break down three critical types of investment income—interest, dividends, and capital gains—and explain why understanding the tax implications of each can dramatically reduce your tax burden. So if you’re want to learn about strategies for minimizing taxes on retirement income, you’re in the right place.

Whether you’re already retired or planning ahead, knowing how to properly position your investments across registered and non-registered accounts is crucial. I’ll share practical strategies, including my “sprinkle approach,” to help keep you in a lower tax bracket and maximize what stays in your pocket during retirement.

Show Notes: Minimizing Taxes on Retirement Income

Hey there, welcome back to the heart of your money. Are you paying too much in retirement taxes? I have a strategy to help trim your tax bill a bit. Here are a few things that you might want to know about some of the investment taxes that might be happening in your accounts. Let’s keep more money in your pocket. So let’s talk about strategies for minimizing taxes on retirement income.

It seems fitting right now to talk about this. It is tax time. It’s on your mind and you are filing and receiving all of your tax slips right now for 2024. Retirement should be about enjoying life, not getting buried under tax time or the taxes that you owe. So I’m going to break down a few smart ways to reduce taxes, a couple of actionable tips, and even a common example.

We’ve seen our office lately that shows how this works. First, I’m going to start off with investment income and understanding it a bit. And I’m going to break it down to just three main things. You don’t have to hold this in your brain for long, but it is something just to kind of be aware about. You don’t have to know the deep weeds in the ins and outs, but you can ask your financial advisor about it. You can kind of keep it in the back of your brain for how it affects your investments.

So there’s three main sources and knowing the difference is key.

First one is interest income. This is taxed at your full marginal rate, which means it’s the most expensive tax-wise. That’s why we like to keep the interest-generating investments, so think of like the bonds or GICs, in your registered accounts. And by registered, I mean your TFSAs and your RSPs, because that’s where taxes are deferred or avoided. Meaning you don’t have to claim the interest at tax time each year. You can have a GIC or a bond inside an RSP.

Remember, generally you can put any type of investment inside the RSP or TFSA. It is still such a shock and a surprise to me that people often don’t realize that you can hold any investment inside the TFSA, just like the RSP. Often people tell me they had no idea. They thought this has to be only at the bank. The bank is the only one that has a tax-free savings account, that TFSA. And they thought the only choice was this low interest savings account. Not true. That is just one example of kind of the misconceptions out there. And so I just want to share the first type of income in your investments is interest income, and it is the most expensive to have if it’s outside of your TFSA or RSP. So think of a non-registered savings account. And that might be like a GIC or a bond, just as an example. So that’s interest income.

The next one you might’ve heard about, it’s called dividend income. Dividend investment income is money you earn from owning stocks. Could be a handful of stocks. When you own a stock, you own a small part of a company. So I have to share right now that one of my investments that I have owns the parent company. It’s called Restaurant Brands, and I’m not giving any investment advice right now whatsoever. So that’s my kind of disclaimer there. Don’t take this as investment advice.

I’m just sharing that one of the parent companies is called Restaurant Brands and inside of that is Tim Hortons. And this morning, where did I go to get my coffee and a gift card for a gift? It was from Tim Hortons. And the reason being is that I now own a small part of that company. I can feel like a small shareholder. And so I wanted to support it.

So back on topic, a dividend comes from owning a stock because you’re now a small part of a company. And if the company makes a profit, it might share some of that profit with its owners. And that share of profit is called a dividend. One example, and completely different related to investments, but it might be, maybe you’re in a profit sharing at your employer, and so you get an account called a Deferred Profit Sharing Account every year. Your employer puts a little bit in there because they’re going to give you some of their profit. Well, if you own an investment, that’s called a dividend. Essentially you get paid for being a part owner of that company.

So dividends get a tax credit. So they’re taxed less heavily than that interest. They are a better choice when it comes to investments within a non-registered account. They’re better than interest income and it has a lower tax drag. So non-registered accounts should have dividend income in them, not interest income.

The third type of income is called a capital gain. And a capital gain is the profit you make when you sell something for more than you paid for it. For example, if you buy a share for $10 and later sell it for $15, that extra $5 is your capital gain. Now in Canada right now, only half of your capital gain is taxed, making that the most tax efficient.

So out of all three, if I did, and I do, I have a slide for this. And I know people that know me and our clients are like rolling their eyes right now. Of course you have a slide for that. I’m not sharing it right now on this podcast ’cause you can’t see me, but out of all three, the capital gains pays the least amount. And that might be changing with Canadian tax laws right now, meaning that only half of your capital gains is taxed. And that might be changing next election or due to our politics. But for right now, I’m gonna just keep out the changing politics. For today’s sake, it hasn’t changed yet.

So keeping it simple, let’s just think half for now, half of it is taxed. And it is best to realize capital gains in your non-registered account to keep your tax bill minimal. So these three type of investment income breakdowns help you, more importantly, your financial advisor, know where to place your investments to save on taxes. This becomes so important in a non-registered investment account. I’m always looking at your tax rate and what type of investment is in the non-registered account.

You wouldn’t believe. Podcast. Now I’m going to go off on a rant. I’m actually going completely off script, off of any of my notes that I made right now is that we talked about risk tolerance and we talked about how one of the main top institutions, you can think of it, banking.

They give you this 15 question risk tolerance questionnaire, and they add it all up and they might not have, hopefully they have lots of conversations with you, but most often, maybe they don’t have any other conversations with you. And all of a sudden it says, “Oh, you are conservative.” Across the bracket, or you are balanced or you are growth, those three main ones.

And I’ve seen it’s just so simplified. And so then they look at their chart and they’re like, “Oh, she had this many points on the risk tolerance questionnaire. She is a conservative investor.” So then they put you in the conservative fund, the name brand of wherever, whatever institution you’re at. So now they give you this conservative fund and they put it inside every single one of the buckets you have, meaning your RSP, your tax-free savings account, your non-registered account, you name it.

That is the only one fund they’re going to use because of rules and regulations and they don’t really know you. But according to this mythical, great Bible risk tolerance questionnaire to cover my butt as an advisor, we’re just going to put you all in that. Now put on your tax hat for a minute. And those three things I just shared with you—capital gains, dividend and interest income.

It means that no matter what bucket you’re in, we’re just going to put you into this so-called blanket fund to cover my butt. I have not even considered what taxes in each one of those buckets—you can actually have different things in each side of those buckets. So maybe you’re conservative in one spot and I want to use interest income for your one layer of a little bit shorter term. It’s not long term. You’re going to use it for income right away. I actually want to use a little bit of that interest income, but then I want to sprinkle in some capital gains and I’m going to put it into your non-registered and maybe it’s more long term. But you see what I’m getting at is that you can actually now handpick different ways for you to have investments inside one of those buckets and all going to be around your taxes and the exact purpose of how much you need and when—your objectives, your long-term thinking, your short-term thinking.

So this is a recipe here that needs to be personalized to you. You don’t want to, you don’t want to have that interest income. So if you’re conservative and they put you in a bond fund, now I’m just using this as an example, and you have a non-registered account and they put you in that fund that pays monthly interest in your non-registered account. And you’re already making a hundred thousand dollars a year—now, every piece of interest you get paid every month is going to be taxable to you as interest at your highest, full marginal tax rate. That’s ridiculous. So this is the difference of why these three types of investment income breakdowns are important and knowing is this going into non-registered accounts, is this going into your RSP, is this going into your TFSA.

It’s important. And looking at the tax rate and what type of investment is inside each of those buckets. So that’s the importance of your income and investments.

Okay, so here’s how to make your money work for you. Make it be a little bit smarter. Max out your TFSA. I know you’ve heard me say this before, but your TFSA is a tax-free zone. You can use it for interest income so you don’t face immediate taxes. Any type of income. I’m not suggesting you go use it only for interest income. I’m just saying that it won’t be affected, affecting your taxes. So if you have to have some interest income, this is a great bucket to put it in. Any type of income in this, in this bucket, the TFSA is great.

Not just interest income. But let’s say you’re low risk and let’s say hypothetically, okay, so something that comes to mind is that you want something short term and low, no risk. This is a great place for interest income from a GIC or a high interest savings account. If you have room in your TFSA, this is where you want to park it.

Now, I suggest that TFSAs be used like pension, RSP, think long term, but if in a circumstance something’s coming up and you need to shelter something short term or for whatever reason you’re only wanting interest, TFSA is the place. There’s no T3 interest slips at the end of each year for you, no added interest income to your tax return, but max out that TFSA.

Second thing is plan your investment sales. When selling investments in non-registered accounts, be mindful of the capital gains. Timing your sales can keep large tax hits at bay. Let me share a few strategies we have in the non-registered accounts. So once you filled up your RRSP bucket enough, you filled up your tax-free savings account bucket, the next place to put your overflow of money is in that non-registered account bucket.

So let’s just say you’re retired, your taps are turned on and you are no longer in saving mode other than your emergency savings and cash on hand. And you have a TFSA and you have a non-registered account. I love to top up your TFSA from your non-registered account each year. Every January we run a list, we do this proactively, we contact people, but first I analyze the potential capital gains. And that’s that tax consequence based on your tax rate. And then we can decide how much to transfer into your TFSA. This allows us to shelter going forward any further capital gains or income coming inside that non-registered investment.

Once it’s in the TFSA, tax reporting of growth ends. And it’s also a great estate tool. So these strategies give you immediate steps that you can implement today. So make sure that you’re taking a look at those three types of income that you have in your investments, use your TFSA bucket, and then plan the investment sales. Make sure you know ahead of time. If you have a non-registered account, make sure you know your capital gains before you actually trigger any. That’ll help you do some tax planning.

Another way, so the way that I like is the sprinkle approach. And I, I mentioned that earlier about the investment choices with interest dividend or your capital gains.

I also like to mix up where all of your income comes from in retirement. So let’s say you have a non-registered account, you have a tax-free savings account and then you have your retirement income funds or those registered buckets that were RSPs, and you’ve got this blend of all these buckets.

Now one way to keep taxes low is of course I put on my nerdy tax hat and I do scenarios about what if we have income coming like the sprinkle approach from every single one of these buckets. It’s not all just from registered taxable income. And so this is one way to keep you in a lower tax bracket and keeping your taxes low if we can, is by taking from each one of the buckets and being mindful of the tax brackets.

One caveat here I just want to say is you’ve got to be careful because sometimes if a RIF is too large—now is there such thing as too large? Great job saving. High five. I’m giving you like the way to go. You’ve saved lots of money, but there is sometimes if your registered money is high and there’s a lot in there, then we got to be mindful of the government minimum withdrawal rules. And that’s why early and smart planning is essential. The only thing you need to know about that is that’s where having a financial plan ahead of time and mapping out your buckets is super important. It helps you save taxes.

Okay. So here’s a common story in our office. I wanted to share with you because I think it’s going to be relevant to a lot of you and living in Saskatchewan, we have a lot of rural people and there’s a lot of farming families with land, or maybe there’s cabins. And so these are the two most common things in our office.

So this story is a couple, they just recently sold their cabin and after paying taxes on the capital gains. So, you know, it sold for more than they had bought it for. And so, there is some capital gains that they have to pay. We took that out of this scenario. We knew what their taxes were. So then they had this lump sum of cash after, and it’s a common question for some people, it stresses them out. But as financial planners, it’s super easy. We know what to do with extra money, but here’s what we did.

Here’s what happened. We adjusted their registered withdrawals, so their RIF withdrawals, so that once their minimum amount that they’re required to take was met, we turned off the tap. We did not take any more money that year and we kept them in a lower tax bracket, and they actually used the cash from the sale of the cabin.

And what I can say is that that cash right now—interest rates were a little bit higher. So high interest savings account was paying a pretty good rate for high interest savings account. So there, you’re getting around that 4%. So we actually parked it into a high interest savings cash account and we paid them monthly from it. And they use the cabin sale for the rest of the year’s income.

We maxed out the TFSAs of course, but by this careful, I’m going to call it sequencing, but by carefully taking cash for their retirement income needs from a different place, we kept their taxable income low and their tax bill minimal that year, which was important because they did have a little bit of capital gains. So this is a story of proper planning and they’re like, “Oh we hadn’t even thought about—we just thought we had to continue on with our registered money.” Not once we went the minimum amounts, we actually then stopped, paused, and then they kept their taxes super low.

We even did it into the next year and they still made a little tiny bit of interest. Now that was taxable, that interest income from a high interest savings account. So yeah, I’m circling back to what we just learned. And so in all, the takeaway story is that we kept them in a super low tax bracket for two years and we were able to use and turn on the tap from a different place.

So with proper planning, you can turn even unexpected cash events into a strategic advantage. I love those planning things. So timing is everything. And sometimes we want to start your retirement income withdrawals before age 72 because it gives you more control over your taxable income, especially if there’s an uber abundance of registered money.

So, by beginning early, we can better mix and match income sources. We can use the sprinkling from all the buckets and keep your tax rate low. This proactive step is a game changer for so many people in saving thousands and thousands in taxes. That’s our role as your financial steward is to do that mapping out with you.

So because what I talked about today might feel overwhelming for some and I hope I didn’t get too deep into the weeds there. This is the reason why a great financial planner, your advisor, they need to be doing these scenarios. They need to map out the scenarios long before retirement, balancing out your registered with your tax-free savings and non-registered accounts and helping you make adjustments as financial situations evolve. Like maybe the sale of a cabin or maybe the sale of land or farmland has come in. It’s all about the tax man.

So think of your advisors and planners through all of this. That is your biggest takeaway right now is to just know that there’s different types of investment income. There’s ways we can manipulate and use it to your advantage and to save you lots in taxes.

So if you found this helpful, I’d love to hear from you. Drop us a comment or reach us at astrafinancial.ca. You can find us on the internet. Let’s work together to keep more of your hard-earned money in your pocket. Thanks for tuning in until next time. Stay informed, stay engaged, and keep planning smart.