If you are an incorporated business owner, you may know that recent tax changes have made it more difficult to save for retirement. But there is a saving option called an IPP or Individual Pension Plan. Annie Boivin, Tax and Estate Planner at TD Wealth talks to Kim Parlee about how an IPP works.
Nice to see you.
What is an IPP?
So an IPP, it's a special pension plan created especially for a business owner. And sometimes it's possible to create it as well for the business owner and for a spouse, especially if they're involved in the business.
So the way it works is that instead of receiving a big salary and investing themself in an RSP account, it's like if the RSP contribution are made directly by the corporation into, not an RSP plan, but into this IPP plan. And the contribution are tax deductible for the company, which, on the tax point of view, makes a lot of sense for a corporation.
So the corporation create this plan for the benefit of the business owners and sometimes a spouse. And we take the money directly from the corporation. And we put it into this plan.
It is very important that when there is an IPP plan put in place for a corporation or for a business owner, that the business owner continues to receive a salary. Not just because if you receive-- let's say the income is based on salary and dividend, it doesn't work well when there's an IPP plan in place. So it's a very good vehicle, but it's based on salary income.
Let me ask you in terms of who should consider this. When you talk about somebody, a business owner and also for the spouse. But is there kind of an ideal situation where it works really well?
Yes. The ideal situation is when the business owner is working for a couple of years in the same business, and that you received in the past salary income, not just dividend income. Because when we put it an IPP plan in place, we can go back to 1991. And it's based on the past year salary income. So it can create kind of a huge balloon that can be transferred into this pension plan.
So if in the past, the income for the business owner was only based on dividend income, it doesn't create this room and we cannot fund the IPP plan. So it's important to have large salary. And the way the calculations are made, it gives better results for the business owners who are age, let's say, over 40 years old.
We mention people have RSPs that are available to them. And if they're drawing a salary, they would have that available to them as well. What would be the advantages to doing an IPP? And what would be also the disadvantages to doing an IPP?
So the advantages of having an IPP, first of all, as I mentioned earlier, is that the contributions are made by the corporation directly.
So it's more tax efficient.
Exactly. It's tax deductible for the corporation. And also the way the calculations are made to put the money into the IPP, it allows the business owner to invest more money yearly than it's possible to do with an RSP plan.
So let's say the RSP room or the contribution rooms are a little bigger into the IPP plan. So that's why it makes it more, let's say, tax efficient or a super nice vehicle to fund retirement.
Right. What about the disadvantages?
The disadvantages is that we need to ask for an actuary to prepare an actuarial evaluation every three years.
So the cost of doing this.
Yeah, the cost. And we have to make sure that the company is a healthy company because it's a liability for the company. And the company has to fund this plan for the business owner. So we have to make sure that there's sufficient cash flow available to fund this IPP plan. And there's probably fees also that we have to consider to put in place this vehicle and also the fee every three years for the actuarial evaluations.
What about, are there other things that a business owner should know about this, beyond the ongoing cost and the maintenance? But what about when it's time for them to start drawing from it, or the business get sold? All that good stuff.
So there's three option, basically-- when the business owner retired or if he sells the business. So we can wind up the IPP. And most of the time, this is not the best option because there's more money put into this IPP plan than it's possible to put into an RSP plan. So it could trigger an amount which could be taxable when we transfer from the IPP, let's say, to an RSP.
The other option is to buy an annuity from a life insurance company to receive an annual payment from this IPP plan. And the third option is to receive a pension, a real pension income from the IPP plan directly. So it becomes flexible and offers three options when it's time to wind up the IPP.
An interesting option for people. Annie, thanks so much.