Income Tax, Annuities and Strategies Flashcards
Paying off a reverse annuity mortgage before maturity
In order to discharge a reverse annuity mortgage, the homeowner must repay not only the principal of the loan and the accumulated interest, but also an interest rate differential.
An interest rate differential (IRD) is the present value of (any excess of the interest expense for the duration of the mortgage at the original interest rate and the current interest rate). An interest rate differential will occur if the interest rates have gone down since the mortgage was taken out.
Deducting attendant care expenses
Provided that the expenses qualify as attendant care expenses, the taxpayer can deduct the lesser of:
- the amount of eligible care expenses that she paid during the year; and
- 2/3 of her earned income for the year, which includes net income from business, gross employment, net research grants and certain other items of income.
A taxpayer may claim amounts paid for a full-time attendant or full time care in a nursing home as a medical expense. A doctor must sign (on a letter or valid form T2201) that the person receiving such care had several mental or physical impairment. However, if a taxpayer or anyone else claims medical expenses for full time care in a nursing home on behalf of a disabled individual, no person can claim the disability amount for that individual.
A taxpayer may claim full time attendant care expenses of lea than $10,000 ($20,000 in the year of death) paid for an attendant, and the disability amount for the disabled person.
Conditions to be able to deduct attendant care expenses
- must be entitled to disability amount
- expenses were paid to a person who is not spouse
- expenses were paid to someone who is at least 18 years old.
- the expenses were paid so the that the taxpayer could earn income from employment or self-employment, take an occupational training course from which she received a training allowance under the National Training Act, or conduct research or similar work for which she received a research grant; and
- the expenses are not claimed as medical expenses.
Age amount
The age amount is an amount for a tax credit that can be claimed by taxpayers who are 65 or older on December 31 of the taxation year. The age amount is indexed.
Federal age credit is calculated as:
(age amount after clawback x conversion rate)
Conversion rate is 15%.
The age amount is clawed back by 15% in excess of the threshold. The threshold is $35466
The cutoff is: $82353
To the extent the taxpayer has insufficient taxable income and tax payable to use the credit, the taxpayer may be able;
- to transfer all or part of an age amount to spouse; or
- to claim all or part of a spouse’s amount.
Eligible Pension income
Tax credit for pension income is a non-refundable federal tax credit to provide income tax relief to receive eligible pension income.
For individuals who have attained 65 years, eligible pension income includes:
- pension payments from a pension plan received as an annuity
- annuity payment from RRSP
- payments from RIF
- the income element from an unregistered annuity
- annuity payments from DPSP
Pension income splitting is a scheme that allows an Canadian resident who receives income that qualifies for pension income tax credit to allocate their resident spouse up to one-half of that income.
Attribution rules - spousal RIF
3 year attribution applies on spousal RIFs, but only on the excess amount, not minimum payments.
Tax liability for unregistered annuity
If a taxpayer purchases an annuity with unregistered funds, only the interest component of each annuity payment must be included in taxable income for the year it is received. The principal component is simply a return of tax paid capital.
If an unregistered annuity is not making immediate payments because it is a deferred annuity, the interest earned still has to be accrued annually. This is done as of the anniversary date of the annuity.
Annuities
The payments generated by a life annuity that is purchased with a fixed lump sun will vary depending on the health and gender of the annuitant, and whether any guarantees are provided with the annuity.
In general, if two individuals, one male and one female, purchase life annuities with the same terms from the same insurance provider, the male annuitant will receive higher payments than the female annuitant. This reflects the fact that women tend to outlive men, so the insurance provider expects to end up making fewer payments to the male compared to female.
All other things being equal, you would expect the number of the payments for those who purchase a life annuity without a guarantee to be fewer than the number of payments for those who purchase a life annuity with a guarantee. Therefore, the amount of payments for those who purchase a life annuity without a guarantee would be greater than the amount of payments for those who purchase a life annuity with a guarantee.
So if two individuals with identical health and gender used equivalent lump sum life annuities from the same insurance provider, the individual who purchases the annuity with a guarantee period will receive lower payments than the individual who purchases an annuity without the guarantee.
Indexed annuity
An indexed annuity is an annuity for which the payments are increased periodically based upon an index or specified percentage. Realizing that their cost of living will increase over time as a result of inflation, some individuals choose to purchase an indexed annuity. This type of annuity increases the payments over time to mitigate the effects of inflation purchasing power.
Annuities are normally indexed to the change in the CPI, which measures the changes in the average cost of living. The annuity payments of an indexed annuity may also be indexed to the change in CPI up to a maximum annual percentage increase. The annuity payments on an indexed annuity may also be indexed by a fixed percentage per yar.
Prescribed annuity
A prescribed annuity is an annuity for income tax purposes that the interest component is assumed to be spread evenly through the life of the annuity and that the capital portion of each payment is constant over time. The early payments from an annuity consist more interest than later payments. Allowing the interest to be averaged over the term of the annuity for income tax purposes provides an element of tax deferral and provides a more level stream of after-tax income.
Prescribed annuities are specifically exempt from the interest accrual rules. Instead, the full amount of the annuity payment is included in income in accordance and then an offsetting deduction is permitted to account for the assumed capital element of the annuity payment.
To determine the assumed interest portion for each payment, you must use the annuitant’s life expectancy to determine the total number of expected payments. If you multiply the expected number of payments by the amount of each payment, you will determine the total of all expected payments. The difference between this total and the purchase price of the annuity is considered to be the interest income, and it is spread equally over the expected number of payments.
Accumulation annuity
An accumulation annuity is an annuity that is funded through a single premium, varying amounts of premiums or series of periodic premiums.
These premiums are accumulated in order to provide a lump sum payment at a time that is chosen by the annuitant.
An accumulation annuity could provide a series of payments on a regular basis.
The payment date can be fixed or variable.
An unregistered annuity must accrue investment income annually for tax purposes.
Cash Surrender Value of an accumulation annuity
is the equity amount, as specified in the contract that is returned to the annuitant if he decides to surrender the policy to the provider. Depending on the contract, it may be the full equity value or the equity less a surrender charge.
Real rate of return or inflation adjusted return
(nominal interest rate - inflation rate) / (1 + inflation rate)
After tax rate of return
nominal interest rate / (1 + inflation rate)
Real, after tax rate of return or inflation adjusted after-tax rate of return
(((nominal annual interest rate x (1 - ETR)) - inflation) / (1 + inflation))
