Retired multi-millionaire wants to know pros and cons of LIFs vs RRIFs

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Jim needs a retirement/financial plan that prioritizes tax efficiency, experts say

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Should Jim, 66, take advantage of Alberta’s provision to unlock 50 per cent of his locked-in investment retirement account (LIRA) when it converts to a life-income fund (LIF) at age 71? What are the pros and cons of moving those funds into a registered retirement income fund (RRIF)?

Some background first. Jim and his wife Linda, 73, have been married, comfortably retired and living in the forever home they designed and built for about 10 years. They each have adult children from previous relationships and entered their marriage having built successful careers in the oil and gas sector (Jim) and real estate (Linda). They signed a prenuptial agreement, keep their finances separate and each has a plan in place to leave their individual estates to their respective children.

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Jim has already given each of his two daughters $600,000. His estate includes: about $3.6 million in a non-registered investment account, largely composed of bank stocks and structured notes, managed by a bank-run brokerage; $519,000 in a registered retirement savings plan (RRSP); and $348,000 in a LIRA.

Each year, he receives $97,800 (gross) from a defined-benefit pension indexed at 2.57 per cent, $15,600 from the Canada Pension Plan and generates about $180,000 in taxable income from dividend and interest payments. He has not yet drawn any money from his registered accounts.

Jim owns the couple’s principal home valued at about $1 million and has a dower release (which has one spouse give up their interest) in place. He has a $422,000 mortgage at 2.37 per cent until 2025.

“I invested the funds into my non-registered investment account and then write off the interest as an investment expense,” he said, adding he’ll decide whether or not to renew the mortgage or pay it off based on the difference between investment income and interest rates.

“I have provided that my spouse can continue to live in the house until age 90 and that an amount be set aside for her from the estate to cover maintenance and utilities for that period of time,” he said. ”My children will inherit the house and pay the property taxes on it as owners.”

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Jim and Linda jointly own a cottage valued at about $270,000 and have applied the same investment strategy. They took out a mortgage of $176,000 at 1.69 per cent until 2026 to invest in their respective non-registered investment accounts and then write off the interest as an investment expense. If they choose to pay off the mortgage, they will equally share that expense.

Jim’s defined-benefit pension provides a 75 per cent survivor pension for Linda and she will also be the beneficiary of his LIF account. He also wants to know if there’s anything else he should consider beyond whether or not to unlock his LIRA when he turns 71?

What the experts say

Eliott Einarson, a retirement planner at Ottawa-based Exponent Investment Management, and Ed Rempel, a fee-for-service financial planner, tax accountant and blogger, agree that Jim should unlock half his LIRA when it converts to a LIF. This will give him more flexibility because there is no maximum withdrawal as required with a RRIF.

“The strategy would be to use the least flexible asset first, taking the maximum for the locked-in portion each year and the rest of the needed income from the unlocked portion and RRIF,” Einarson said.

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However, they also agree Jim has a much bigger issue to deal with: he needs a retirement/financial plan that prioritizes tax efficiency.

“He’s paying tax on $180,000, but he’s only spending about $50,000,” Rempel said. “He can reliably spend $290,000 per year before tax — investments plus pensions — which is about $230,000 per year after tax.”

Einarson recommends planning taxable income over the next 25 to 30 years.

“The retirement plan will illustrate income from all sources both gross and net each year and demonstrate the most effective tax strategy for his income and for his estate,” he said. “The variables can be adjusted in real time to show how one area will affect the others.”

Right now, Jim’s investment income is based on dividends and interest, and this is one area the experts disagree on.

Rempel said Jim can save a lot of tax by focusing on deferred capital gains and investing for a long-term total return instead of investing for dividends. He can then sell when he needs the cash flow and only pay tax on the capital gain from the shares sold.

“A dividend is a withdrawal from his investment that the company forces on him, even though he does not need it. When he receives a dividend, the value of his investment drops by the amount of the dividend, which is exactly the same as selling a bit of his investment,” he said. “He thinks he is getting ‘income,’ but it is a brain fart. He is essentially selling some of his investments regularly and paying tax for no reason.”

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Einarson disagrees. “I think dividend income is consistent and relatively tax efficient when it comes from Canadian companies as compared to fixed income. Dividend-paying companies tend to be more reliable and grow over time (and can be a key component of a retirement portfolio). Retirees don’t want too much market volatility.”

Rempel said Jim should continue to have tax-deductible mortgages for the long term.

“Stocks go up and down short term, but are far more reliable than most people think in the long term, which is why borrowing to invest should always be a long-term strategy,” he said. “When their mortgages come due, it is probably best to ask for a home reappraisal, increase their limit and mortgage to 80 per cent of the appraisal, and invest the extra cash.”

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But Einarson thinks Jim has plenty of assets and income and doesn’t need to take on the risk of borrowing to invest.

All told, Jim has done a good job estate planning, but implementing a retirement plan will open up important opportunities to simplify his investments, ensure they align with his goals and maximize tax efficiency.

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