# Why is our thinking about tax rates on RRSPs vs. Government Benefits -->



## janus10 (Nov 7, 2013)

I believe it is very common (universal?) to first count government benefits (CPP, OAS, GIS) and then additional income (such as RRSP/RRIF withdrawals) last. This has the effect of giving government benefits the lowest MTR and Registered income the highest MTR. I'm not considering DBP here.

What if we turned that on its head and said that Registered income is first, and then government benefits last? I don't mean you literally have to take out your year's income from your RRSP/RRIF on January 2nd (although that might help this thought experiment) but really just consider that type of structure.

Example: I am in Ontario and I take $10k out of my RRSP. That is below my basic personal amount, so that is tax free. Excellent! I also get another $6k in OAS (which results in a tax bill of $1,174) and $8k for CPP (a further tax bill of $1,979) for a total of $3,153. (I went to taxtips.ca and input these income line items one at a time in that order - RRSP, OAS, CPP).

Would that change people's thinking about RRSPs and/or government benefits if someone were to market RRSPs that way? Heck, if the government were at a point where they were concerned about the ability to fund OAS, would they themselves start changing the story to show examples where the first X$ of RRSP income is free, you only pay tax on the CPP?

I don't know why it never struck me that we always seem to default to the RRSP being taxed as the last dollar of income (and the penultimate dollar, and so on) when really it is just one pile of income. If 50% of your income is from RRSPs, then really why don't we think that 50% of the tax we pay is due to RRSPs which could effectively lower the MTR on withdrawals.

I imagine it is because the OAS is free money, the CPP is a percentage of gross working income and the RRSP is our choice.

Because my wife and I are planning early retirement, our RRSPs will form the bulk of our income until we collect OAS on top of CPP. So, a portion of our RRSP income will be, in essence, tax free, even in the traditional concept of thinking about retirement income.


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## pwm (Jan 19, 2012)

You make a good point. MTR is a useful measure of your tax situation, but what income should it apply to? 

I find it more useful to look at the overall tax rate. That is total taxes paid/total income. I'm retired and my MTR last year was 43% which is what it was while working, yet my actual overall tax rate was around 10%. It was 25% while working.


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## RBull (Jan 20, 2013)

This is a good subject to raise for retirees. 

I don't know how common (universal) it is to look exclusively at MTR. Like pwm suggested I consider total income/total tax and look at things we way you suggest in your 3rd last paragraph. I don't know why anyone wouldn't. However we are also not collecting OAS or CPP yet- just registered pension, investment income and likely RSP withdrawals later this year. 

One thing is clear- our tax system is too complex.

One thing I would be interested in hearing about from others experienced in RSP withdrawals to see if my thinking below is correct or if I'm missing something. 

It seems to me the current withholding taxes are unreasonably high rates for Canadians other than Quebecers based on the amounts, unless a person has other significant corporate or government pension, or other investment income (small number of people). This would appear to have the affect of taking off too much tax for many situations (paid for from RRSP funds) and having it refunded back as unsheltered funds-which of course can be used as income. Therefore this needs to be considered when considering how much to withdraw; what the net will be at withdrawal and what your refund will be; and the timing of the withdrawal to minimize the time our government has your money.


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## uptoolate (Oct 9, 2011)

pwm said:


> You make a good point. MTR is a useful measure of your tax situation, but what income should it apply to?
> 
> I find it more useful to look at the overall tax rate. That is total taxes paid/total income. I'm retired and my MTR last year was 43% which is what it was while working, yet my actual overall tax rate was around 10%. It was 25% while working.


This is definitely the way I think of it. Though if it would help people not get so worked up about paying some tax on RRSP withdrawals, it would be worth demonstrating the effect of looking at the RRSP money coming out first. I went to a nice free dinner the other night with the FA totally dissing RRSPs while applying the highest MTR to them and not including the original tax refund as invested money. Where is steve41 these days. Not many situations for the average Canadian where the RRSP doesn't work out positive.


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## cainvest (May 1, 2013)

pwm said:


> I find it more useful to look at the overall tax rate. That is total taxes paid/total income.


^^ This.

MTR is good to look at to see which bracket you're ending up in but doesn't tell the whole story on the real tax picture. As pwm shows above, the same MTR can yield different average tax rates. As an example of why average rate is best looked at lets say ones MTR is same when working and then in retirement. While working the MTR (last dollar) is near the top (say $85k) of the 43k-87k bracket but in retirement your income is now 48k which will show the same MTR as when you're working. So the difference being, 42k is getting taxed higher when working vs only 5k is getting taxed higher when retired thus leading to a lower average tax rate when retired.


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## steve41 (Apr 18, 2009)

There is no such thing as an average tax rate or MTR..... there is a tax formula including indexed brackets, clawbacks, surtaxes, tax credits.... This formula is known to all, why not use it?


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## uptoolate (Oct 9, 2011)

There you go! Thanks Steve.


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## Eclectic12 (Oct 20, 2010)

janus10 said:


> I believe it is very common (universal?) to first count government benefits (CPP, OAS, GIS) and then additional income (such as RRSP/RRIF withdrawals) last. This has the effect of giving government benefits the lowest MTR and Registered income the highest MTR. I'm not considering DBP here...
> 
> I imagine it is because the OAS is free money, the CPP is a percentage of gross working income and the RRSP is our choice.
> 
> Because my wife and I are planning early retirement, our RRSPs will form the bulk of our income until we collect OAS on top of CPP. So, a portion of our RRSP income will be, in essence, tax free, even in the traditional concept of thinking about retirement income.


I suspect it's because once the other income starts, there is no way to avoid it.

When the RRIF minimum withdrawals kick in, the same thing is true ... however, there maybe times before that when one has a chance to make withdrawals at lower rates when one might not be thinking of it *because* most discussions use the higher rates.

I questioned in another thread whether it matters whether one considers the RRSP withdrawal as the lower taxed one and the other income such as investment income as the higher taxed one. 


Cheers


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## Davis (Nov 11, 2014)

+1.

At the margin is where you're making your decisions, like whether to take out more from your RRIF, or whether to put money into an RRSP in the first place.

You don't have the same decisions to make about the other programs. I do agree with you that some people focus too much on getting what they can out oif the government, rather than on investing well so they can be rich enough not to get benefits. 

For me, I will accept what I qualify for, but I'd rather retire rich and wintering in South America than be sitting by the door waiting for my cheque to come in.


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## pwm (Jan 19, 2012)

Yes MTR is useful for certain decision making, although it makes me feel a little better to think I'm paying 10% on my income, rather than 43%.


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## Eclectic12 (Oct 20, 2010)

Focusing too much on a part of income can lead one astray ... in another thread someone was panicking about paying 40+% on an RRSP withdrawal. I plugged in the numbers for a substantially higher income ($120K), where the total tax bill divided the $120K income resulted in 30% or so.

Where one is ending up with $84K to spend in retirement and the TFSA has already been maxed ... I'm happy to deal with paying 40% on the RRSP withdrawal. :biggrin:


Cheers


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## janus10 (Nov 7, 2013)

Thanks for all of the comments.

At this time of year, we are bombarded with RRSP ads and so many online columns talk about RRSP withdrawal MTR rates as though only RRSP income is the last thing to be counted.

Personally, the only time I look at MTR is when I'm trying to figure out how much should my wife contribute to catch up on her room.

For my retirement income projections, I focus on the After Tax Income (I was going to put ATI but worried only Steve41 and a few others would understand.).


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## 0xCC (Jan 5, 2012)

RBull said:


> One thing I would be interested in hearing about from others experienced in RSP withdrawals to see if my thinking below is correct or if I'm missing something.
> 
> It seems to me the current withholding taxes are unreasonably high rates for Canadians other than Quebecers based on the amounts, unless a person has other significant corporate or government pension, or other investment income (small number of people). This would appear to have the affect of taking off too much tax for many situations (paid for from RRSP funds) and having it refunded back as unsheltered funds-which of course can be used as income. Therefore this needs to be considered when considering how much to withdraw; what the net will be at withdrawal and what your refund will be; and the timing of the withdrawal to minimize the time our government has your money.


Opening an RRIF might avoid some of this complication but it might add some other complications. Minimum RRIF withdrawals are not subject to withholding taxes. http://www.cra-arc.gc.ca/tx/rgstrd/wthhldng-eng.html For people 71 and under I think it is possible to have both an RRIF and and RRSP.


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