Article written by Jackie Porter
Contributing to a spousal RSP is considered to be a smart financial planning strategy when a couple is planning their future together and looking to pay as little taxes a possible in retirement. This strategy is normally recommended when couples are looking for ways to split their income in retirement and reduce the overall tax they would pay as a family. However, if your relationship falls apart before you make it to retirement, you will need to think through how you will split your spousal RSP and all of the other assets that were created during your marriage as you contemplate divorce or separation.
How Does a Spousal RSP Work?
The strategy essentially works like this: If you are the higher income spouse, you will likely have more RRSP room and will be in a higher tax bracket than your spouse. The couple will also end up with a larger tax refund when the higher income spouse makes the RSP contribution. However, if the higher income spouse maxes out their RSP contribution each year, they will also be the one drawing the lion’s share of RSP income which will be fully taxable in retirement. In order to prevent this and equalize what both spouses can withdraw from the RSP, a spousal contribution can be made in the lower-income spouse’s name with the higher income spouse getting the tax credit for the contribution.
Who Owns the Spousal RSP in a Divorce?
This is where it gets tricky. Once the higher income contributor makes the contribution the RSP now belongs to the lower-income spouse- the person who is named on the plan. Keep in mind the contributor has essentially “gifted” the RSP to the spouse.
In a divorce, however, all of the family’s assets will need to be equally divided, including the spousal RSP. The Spousal RSP, Personal RSP’s Locked in Accounts RRIF’s and other registered assets are treated the same in a divorce or separation, which means they can be transferred between spouses and evenly split without tax consequences.
Who is Entitled to What Asset in a Divorce?
Deciding who will get what assets are one of the most challenging aspects of divorce. Keep in mind, not all assets are created equal. Negotiations over who will get what asset will often leave one or both spouses struggling to figure out how they will make up the difference-especially in later life divorce. Keep in mind that the value of the Spousal RSP or other types of Registered assets must take into account the deferred tax that must be paid in retirement. This begs the question: how do you equalize one asset that is fully taxable in retirement with an asset that may have minimal tax consequences such as the family home? Secondly, how will you finance the cost associated with splitting the assets so each spouse gets their fair share? The math involved in these circumstances can get quite complicated. Confrontations on how to split the marital assets often ensue and there are no winners. Heated discussions about can lead to further conflict and family discord.
The less informed you were about the family’s finances could also put you at a further disadvantage. If you were a woman, who stayed at home and left decisions about financial management to your husband, the negotiation process can add an extra layer of grief and confusion as you contemplate how you will navigate your current and future finances- alone.
Why Retirement Looks Different-Alone ?
Maybe when you entered the marriage and you discussed retirement, you envisioned the two of you retiring comfortably and spending many years involved in travel and leisure. This is also the retirement lifestyle promoted by the financial industry in many of their advertisements.
Yet the facts are baring out differently for many couples. Statistics about divorce suggest that the fastest rising demographic of divorcees are seniors. What this means is if you are a senior, the divorce will have long term negative impacts on how you will retire, after being married for 20 or 30 years. Perhaps there will not be enough time to make up the assets that will be lost to the divorce. You will also need to quickly carry the costs related to the separation, along with financing housing and lifestyle costs as you begin a new life on your own.
Why You Need a Plan?
Now is the time to draft the expenses associated with your new lifestyle and determine how you will maintain it well into your retirement. A financial plan will provide you with a comprehensive picture of your circumstances by helping you to understand your cash flow, taxes, retirement and estate risks. It will also help you to identify strategies to get your retirement back on track. Although this may not have been the retirement you imagined it can be one where you are putting yourself in the driver’s seat as you move toward taking control of your financial future.