Show Transcript
If you’re a business owner, the choice between keeping money in the business or pulling some out to save for retirement is a common dilemma. And whether you choose to use an RRSP or TFSA could depend on several factors. Pierre Létourneau, Business Succession Advisor, TD Wealth, joins Kim Parlee to discuss how income and cash flow considerations could play a role in which account might be best for you.
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* If you are a business owner, here's a question you may be asking yourself-- should I invest more into my business or should I take that money out of my business and put it towards my retirement fund? Doing the thinking on RRSPs and TFSAs matter for everyone, but there are special considerations business owners need to think about. Pierre Létourneau, Business Succession Advisor, TD Wealth, joins me now. How are you?
* I'm well. How are you?
* I'm well, thanks. Happy new year.
* Happy new year.
* I'm thinking that when a business owner comes to this decision, and probably the default is my business. I put more into my business. Is that what you've kind of seen over the years?
* Well, yeah. And it depends on the nature of the business for sure, but yeah, we tend to forget about retirement sometimes.
* Yeah. So maybe just take us through why-- I mean, from an RRSP and TFSA, I mean, everyone probably understands a lot of the benefit. But maybe talk a bit about that. But then there's something specific business owners need to think about as well.
* Yeah, for business owners, I think they take advantage-- or these accounts provide the same sort of benefits that they would provide to an individual. But for a business owner-- and we're talking about a business owner that's operating through a corporation, right? You've got that separate legal entity that's generating the income. Well, there's an incentive of keeping those funds within the corporation because it provides some tax deferral. You pay low corporate tax rates. And then to take that money out personally and invest that personally, you need to pay personal taxes on that.
- So it's sort of balancing that benefit with the benefit that these accounts provide. So the major benefit that they provide are tax benefits. And they work a bit differently, but let's start with the RRSP, for example. The RRSP is a tax-deferred vehicle. When you make a contribution to the RRSP, you get a tax deduction. So you're actually taking pre-taxed funds and investing those funds. So you haven't paid tax on that, you've got more funds to invest and generate more income. That income is also not taxable. It's only taxable when you start withdrawing from that account.
- With the TFSA, this is a tax-free vehicle. So you're taking after-tax dollars. So you've got to really factor in the personal taxes that you're going to pay on those funds. But the benefit there is any income, any investment income generated in that account, you'll never pay tax on that. And there's flexibility in terms of withdrawing from that account, as well, too, to fund some expenses, and recontributing. So there's a lot of flexibility from a cash flow standpoint with the TFSA.
* Let's talk a bit about just maybe the questions a business owner should be asking themselves, given all that criteria, on what they should do in that situation, where the funds should go.
* Right. So one, first and foremost, is what are your personal cash flow needs. How are you taking income out of the business? Are you taking dividends? Are you taking salary? That will impact your decision. The other thing is, what tax bracket are you in? Are you a high-income earner? Are you a low-income earner? That will have an impact.
- And then also looking at the business. What type of investments do you have within the business? I've been on this show before talking about the passive investment income rules. So these are rules that impact the tax rate on business income if a corporation generates too much passive income. So that may factor into the decision, as well, too. So those are all different factors that need to be considered.
* OK. What about if we narrow it down a little bit and talk about just each type of account? RRSP, what are things they need to keep in mind in terms of the benefits of an RRSP? And you said, again, these are pre-tax dollars.
* Yes, exactly. So one of the first things is, are you creating contribution room? Do you have contribution room? Contribution room is based on income. So you get 18% of your income, up to a maximum of $31,560 for 2024. So that's the maximum you can contribute if your income is high enough.
- But it's not all type of income that creates that contribution room. So dividends, for example, dividends that you take out from a corporation doesn't create contribution room. Salary does. So the type of income that you take from the business is going to have an impact. Also, your tax bracket that you're in, as well, too. If you're in a high tax bracket, that deduction that you get from that contribution in the RRSP is much more valuable.
* Yeah.
* Also, how are you going to use these funds? It says it in the name. It's a registered retirement savings plan. So generally, RRSP is for retirement. Now, there are limited exceptions where you can use it for other expenses, like an example is the first-time home buyers' plan to help you purchase your first home. The lifelong learning plan, as well, too, is an opportunity to take money from your RRSPs to fund education expenses in certain circumstances. But generally, it's for retirement.
* And what about the TFSA?
* So the TFSA is-- again, I think what you need to consider, again, we talked about the tax consequences because it's after-tax dollars. So if you're in a higher tax bracket, in that circumstance, well, maybe it's not as attractive. If you're in a lower tax bracket, then maybe the cost of pulling that money out to make the contribution is lower from a tax standpoint.
- In terms of contribution room, your type of income won't impact the contribution room. It's available to any individual 18 and over and has residence in Canada. It's $7,000 for 2024. Again, the use of the funds will be important, right? A lot more flexibility with the TFSA because you can make a withdrawal and then regain that contribution room in the following calendar year. So there's flexibility there. It doesn't have to be for retirement.
* But you still get dinged by that after-tax dollars that you start with, right?
* Right. You've got to pull that money out of the corporation and pay tax on that.
* So I guess you really prioritize what you're doing based on your income you talk about, and maybe how volatile your cash flows are at the same time.
* Yeah, that's a good point. I think when you make this sort of decision, you want to do a bit of forecasting.
* Yeah.
* You want to look at the scenario you're in today, right, what tax bracket you're in, but also consider what tax bracket you're going to be in in the future. If you're in a low tax bracket today but anticipate being in a high tax bracket in the future, then maybe the RRSP isn't the right vehicle today. You may want to leave that contribution room for the future and maybe focus on your TFSA today.
- If you don't have any TFSA contribution room, you can still make a contribution to your RRSP, and maybe you just take the deduction in a future year so you can carry forward the actual deduction, even though you're making the contribution today. So a lot of different iterations, a lot of different considerations that need to be made to prioritize a specific account.
* And I think part of this is also just speaking with an advisor, right, who knows you and maybe can provide-- because a lot of business owners are just passionate about their business and they just want to put money back into their business.
* Right. And they don't necessarily have the time to focus on this. And that's where the advisor could provide a lot of value. So working with an advisor-- not just any advisor, someone that's comfortable working with business owners. Also, a good tax professional. So it's important to have a good accountant on your side, as well, too, to help you with these decisions.
[AUDIO LOGO]
[MUSIC PLAYING]
* If you are a business owner, here's a question you may be asking yourself-- should I invest more into my business or should I take that money out of my business and put it towards my retirement fund? Doing the thinking on RRSPs and TFSAs matter for everyone, but there are special considerations business owners need to think about. Pierre Létourneau, Business Succession Advisor, TD Wealth, joins me now. How are you?
* I'm well. How are you?
* I'm well, thanks. Happy new year.
* Happy new year.
* I'm thinking that when a business owner comes to this decision, and probably the default is my business. I put more into my business. Is that what you've kind of seen over the years?
* Well, yeah. And it depends on the nature of the business for sure, but yeah, we tend to forget about retirement sometimes.
* Yeah. So maybe just take us through why-- I mean, from an RRSP and TFSA, I mean, everyone probably understands a lot of the benefit. But maybe talk a bit about that. But then there's something specific business owners need to think about as well.
* Yeah, for business owners, I think they take advantage-- or these accounts provide the same sort of benefits that they would provide to an individual. But for a business owner-- and we're talking about a business owner that's operating through a corporation, right? You've got that separate legal entity that's generating the income. Well, there's an incentive of keeping those funds within the corporation because it provides some tax deferral. You pay low corporate tax rates. And then to take that money out personally and invest that personally, you need to pay personal taxes on that.
- So it's sort of balancing that benefit with the benefit that these accounts provide. So the major benefit that they provide are tax benefits. And they work a bit differently, but let's start with the RRSP, for example. The RRSP is a tax-deferred vehicle. When you make a contribution to the RRSP, you get a tax deduction. So you're actually taking pre-taxed funds and investing those funds. So you haven't paid tax on that, you've got more funds to invest and generate more income. That income is also not taxable. It's only taxable when you start withdrawing from that account.
- With the TFSA, this is a tax-free vehicle. So you're taking after-tax dollars. So you've got to really factor in the personal taxes that you're going to pay on those funds. But the benefit there is any income, any investment income generated in that account, you'll never pay tax on that. And there's flexibility in terms of withdrawing from that account, as well, too, to fund some expenses, and recontributing. So there's a lot of flexibility from a cash flow standpoint with the TFSA.
* Let's talk a bit about just maybe the questions a business owner should be asking themselves, given all that criteria, on what they should do in that situation, where the funds should go.
* Right. So one, first and foremost, is what are your personal cash flow needs. How are you taking income out of the business? Are you taking dividends? Are you taking salary? That will impact your decision. The other thing is, what tax bracket are you in? Are you a high-income earner? Are you a low-income earner? That will have an impact.
- And then also looking at the business. What type of investments do you have within the business? I've been on this show before talking about the passive investment income rules. So these are rules that impact the tax rate on business income if a corporation generates too much passive income. So that may factor into the decision, as well, too. So those are all different factors that need to be considered.
* OK. What about if we narrow it down a little bit and talk about just each type of account? RRSP, what are things they need to keep in mind in terms of the benefits of an RRSP? And you said, again, these are pre-tax dollars.
* Yes, exactly. So one of the first things is, are you creating contribution room? Do you have contribution room? Contribution room is based on income. So you get 18% of your income, up to a maximum of $31,560 for 2024. So that's the maximum you can contribute if your income is high enough.
- But it's not all type of income that creates that contribution room. So dividends, for example, dividends that you take out from a corporation doesn't create contribution room. Salary does. So the type of income that you take from the business is going to have an impact. Also, your tax bracket that you're in, as well, too. If you're in a high tax bracket, that deduction that you get from that contribution in the RRSP is much more valuable.
* Yeah.
* Also, how are you going to use these funds? It says it in the name. It's a registered retirement savings plan. So generally, RRSP is for retirement. Now, there are limited exceptions where you can use it for other expenses, like an example is the first-time home buyers' plan to help you purchase your first home. The lifelong learning plan, as well, too, is an opportunity to take money from your RRSPs to fund education expenses in certain circumstances. But generally, it's for retirement.
* And what about the TFSA?
* So the TFSA is-- again, I think what you need to consider, again, we talked about the tax consequences because it's after-tax dollars. So if you're in a higher tax bracket, in that circumstance, well, maybe it's not as attractive. If you're in a lower tax bracket, then maybe the cost of pulling that money out to make the contribution is lower from a tax standpoint.
- In terms of contribution room, your type of income won't impact the contribution room. It's available to any individual 18 and over and has residence in Canada. It's $7,000 for 2024. Again, the use of the funds will be important, right? A lot more flexibility with the TFSA because you can make a withdrawal and then regain that contribution room in the following calendar year. So there's flexibility there. It doesn't have to be for retirement.
* But you still get dinged by that after-tax dollars that you start with, right?
* Right. You've got to pull that money out of the corporation and pay tax on that.
* So I guess you really prioritize what you're doing based on your income you talk about, and maybe how volatile your cash flows are at the same time.
* Yeah, that's a good point. I think when you make this sort of decision, you want to do a bit of forecasting.
* Yeah.
* You want to look at the scenario you're in today, right, what tax bracket you're in, but also consider what tax bracket you're going to be in in the future. If you're in a low tax bracket today but anticipate being in a high tax bracket in the future, then maybe the RRSP isn't the right vehicle today. You may want to leave that contribution room for the future and maybe focus on your TFSA today.
- If you don't have any TFSA contribution room, you can still make a contribution to your RRSP, and maybe you just take the deduction in a future year so you can carry forward the actual deduction, even though you're making the contribution today. So a lot of different iterations, a lot of different considerations that need to be made to prioritize a specific account.
* And I think part of this is also just speaking with an advisor, right, who knows you and maybe can provide-- because a lot of business owners are just passionate about their business and they just want to put money back into their business.
* Right. And they don't necessarily have the time to focus on this. And that's where the advisor could provide a lot of value. So working with an advisor-- not just any advisor, someone that's comfortable working with business owners. Also, a good tax professional. So it's important to have a good accountant on your side, as well, too, to help you with these decisions.
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[MUSIC PLAYING]
