Module 2: Designing Non-Pension Registered Retirement Plans Flashcards
Provide a brief overview of the key characteristics of a Registered Retirement Savings Plan (RRSP)
An RRSP is a contract between an individual and the issuer of the RRSP. Issuers may be an authorized insurer, trustee or corporation. Contributions made by a taxpayer are deductible for taxation purposes within the contribution limits under the Income Tax Act (ITA). Taxpayers may also elect to contribute to an RRSP in their spouse’s name within the prescribed limits. Investment earnings on the assets of RRSPs are tax-sheltered. As with a defined contribution registered pension plan, the amount of retirement income available to a member of an RRSP depends on how much was contributed and how well the investments were managed, and it is not known until the plan member stops work.
Withdrawals from RRSPs are taxable unless they are “excluded withdrawals” pursuant to the Home Buyers’ Plan (HBP) or the Lifelong Learning Plan (LLP). Different tax-attribution rules apply to certain withdrawals from a spousal RRSP.
An RRSP may be matured or annuitized at any time, except that the annuity (either a life annuity or a fixed-term annuity) must be purchased or the funds transferred to a Registered Retirement Income Fund (RRIF) prior to the end of the year in which the taxpayer reaches age 71. Another option available before that date is an advanced life deferred annuity which, allows RRSP owners to defer receiving income from a portion of their RRSP until age 85.
Describe the key characteristics of a Group RRSP.
A Group RRSP is a collection of individual RRSPs for which the routine administrative functions are centralized. A Group RRSP is not subject to pension standards legislation.
Employees who join a Group RRSP authorize their employer to deduct their desired RRSP contribution from their income each pay period. The RRSP contribution is a “before-tax” deduction, reducing the plan member’s income subject to income tax in each pay period. Group RRSPs can also receive contributions made by the plan sponsor, which are considered to be additional employee earnings.
Each plan member has an individual account and can see how much has been contributed each year and how much it is worth. As with a defined contribution pension plan, the amount of retirement income available to a member of a Group RRSP depends on how much was contributed and how well the investments were managed, and it is not known until the plan member stops work.
Describe a “spousal” account in a Group RRSP, its purpose and any limitations to its use.
The purpose of a spousal RRSP is to help two members of a couple to equalize retirement income, recognizing that otherwise the two individuals’ retirement income could vary significantly. When a spousal account is established, the employee makes the contribution in the spouse’s name, the contribution is tax deductible to the plan member, up to their contribution limit, and the funds are owned by the spouse.
Most plan sponsors allow spousal accounts but may sometimes limit employer contributions to be considered made to the plan member’s account (i.e., no employer contributions to be allocated to spousal accounts).
Payments from a spousal RRSP are taxable to the spouse unless the funds are withdrawn within three years of contribution. In this case, the plan member will be responsible for income tax assessed on the amount of the withdrawal.
Identify the treatment of monies transferred to a Group RRSP from a member’s prior registered pension plan.
Employees are often allowed to transfer monies to their plan from prior employer-sponsored plans or personal RRSPs. Sometimes these monies will be “locked-in” under pension standards legislation. If that is the case, the locked-in funds will be held separately from unrestricted RRSP funds in an account called a locked-in RRSP or, in some jurisdictions, a Locked-In Retirement Account (LIRA), and the pension standards legislation will continue to apply to those monies.
Monies subject to lock-in must be used to provide retirement income at the member’s retirement age.
Provide a brief overview of the key characteristics of a deferred profit-sharing plan (DPSP).
A DPSP is registered under the ITA, and tax treatment available to employers and employees in respect of contributions and monies held within a DPSP is very similar to that available to employers and employees who participate in defined contribution registered pension plans. Only organizations that are able to make profits can sponsor a DPSP. DPSPs are not subject to pension standards legislation.
A DPSP operates at arms length from the plan sponsor, through the establishment of a trust. The trust may be operated by a trust company, or by at least three individual trustees, one of whom must be independent of the operations of the plan sponsor and cannot be a shareholder of the plan sponsor. The trustee(s) contracts with a DPSP provider, who registers the DPSP document and trust with CRA. Only plan sponsors may contribute to a DPSP; members are not allowed to contribute.
Each DPSP member has an individual account and can see how much the plan sponsor has contributed each year and how much it is worth. As with a defined contribution pension plan, the amount of retirement income available to a member of a DPSP depends on how much was contributed and how well the investments were managed, and it is not known until the plan member stops work.
Describe how an individual’s tax deductible RRSP contribution limit is determined in any year.
Contributions to an RRSP are deductible within set limits. The deductibility of RRSP contributions is governed by a retirement savings system based on the principle that tax assistance should be the same for all individuals with the same income, regardless of the arrangement in which they participate.
A plan member can contribute up to 18% of their earned income subject to a dollar maximum, set by the federal government each year. This amount is then adjusted by various factors reflecting historical contributions and participation in other registered retirement programs.
Define the term “earned income” in the context of determining an individual’s tax deductible RRSP contribution limit. Provide examples.
Earned income is defined by the ITA. Examples of the types of income that are included under the ITA definition are employment income, business income, royalties, rental income, alimony or maintenance payments, payments received under a supplementary unemployment benefit plan and research grants.
Identify how ITA applies to plan sponsor contributions to a Group RRSP and the resulting additional costs a plan sponsor may experience.
Under ITA, only individuals can contribute to RRSP accounts; therefore, plan sponsor contributions are deemed to be paid to the employee, who in turn contributes the amount to the Group RRSP. This additional amount paid to the employee can often result in additional costs in the form of contributions to government plans, including the Canada/Québec Pension Plan (CPP/QPP), Employment Insurance (EI), provincial health care plans (in some jurisdictions) and Workers’ Compensation (WC).
If the plan member’s remuneration is greater than the maximum assessable earnings for these payroll taxes, the increase in the plan member’s compensation related to plan sponsor contributions to the group RRSP will not create an increase in the amount of payroll taxes.
Describe the maximum amount a plan sponsor can contribute to a DPSP in respect of a plan member.
Tax-deductible plan sponsor contributions to a DPSP cannot exceed a maximum contribution per plan member that is limited to the lesser of 18% of the member’s compensation for the year and one-half of the DC registered pension plan limit for the year. Note that the Text uses the less common term of “money purchase limit.” The employer contribution is deductible to the extent that it is paid in accordance with the plan, as registered, and it is made in the taxation year or within 120 days after the end of the taxation year.
From the employee’s perspective, DPSP contributions are treated similarly to pension contributions; they form part of the comprehensive savings limit allowed by CRA. Thus, the maximum employer contribution to a DPSP may be reduced as a result of contributions to other registered arrangements. The opposite is also true.
Explain the tax implications of withdrawing funds held in a Group RRSP or DPSP before retirement.
A plan member who withdraws cash from a Group RRSP or DPSP before retirement will increase their taxable income by the amount of the withdrawal. Cash withdrawals have two tax implications:
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(1) Withholding taxes are incurred:
The actual tax deducted from the withdrawal ranges from 10% to 30% of the withdrawal (more in Quebec), and it is submitted directly to CRA. For a Group RRSP, it is submitted by the service provider. For a DPSP, it is submitted by the trustee. Withholding taxes are based on a prescribed schedule; income tax ultimately payable depends on the plan member’s personal tax situation in the year of the withdrawal.
(2) Taxable income increases: The full amount of the withdrawal constitutes additional income for the year and can move the plan member into a higher tax bracket.
Cash withdrawals from a Group RRSP that are requested specifically for either the Home Buyer’s Plan (HBP) or the Lifelong Learning Plan (LLP) are not subject to income tax, unless the individual fails to repay monies to their RRSP in accordance with the schedule specified by ITA. Funds transferred directly from a group RRSP or DPSP to another registered retirement plan are not subject to income tax at the time of transfer.
Identify criteria a plan sponsor uses to establish eligibility for participation in a Group RRSP and/or a DPSP.
The plan sponsor establishes eligibility criteria for participation in a Group RRSP and a DPSP. The eligibility criteria vary by plan sponsor but may include:
(a) Employment level (i.e., clerical/administrative, supervisory, management, executive, line worker, etc.)
(b) Employee tenure or seniority with the company
(c) Whether the employee is participating in or registered to participate in an RPP
(d) Whether the employee has met a specified waiting period
(e) Whether employees’ spouses may join the plan.
Significant shareholders and their family member may join the Group RRSP but may not join the DPSP because of ITA rules. Generally, those rules include any individual who does not deal at arm’s length with the plan sponsor or who holds, alone or in combination with someone, 10% or more of the issued shares of any class of shares of the plan sponsor or a related plan sponsor.
This restriction against DPSP membership means that the specified individuals usually join the Group RRSP, and company contributions for those persons are directed to that part of the plan.
Describe the various methods used to determine plan sponsor contributions to a Group RRSP and/or a DPSP.
Plan sponsors have significant flexibility in determining the amount of their contributions. Often plan sponsors’ contributions (whether made to the Group RRSP or to a DPSP) are based on a matching formula—an amount that matches either all or a portion of the contributions that a plan member makes to the Group RRSP or in the case of a DPSP, to the Group RRSP. Plan sponsor contributions can also be related to the member’s job classification or period of service with the plan sponsor. Some DPSPs, as their name suggests, relate contributions to the level of company profits, or the employer may supplement a matching contribution schedule by an amount related to successful company operations.
Sometimes, employer Group RRSP contributions will be limited to the employee (i.e., employer contributions are not allocated to a spousal RRSP); DPSP contributions will be made in the name of the employee as the spouse is not an employee of the sponsoring employer.
When DPSP contributions are entirely based on a matching contribution schedule,
it is necessary to clarify this to plan members in order to foster understanding of the plan sponsor’s intentions in unprofitable years.
Compare the vesting provisions of a Group RRSP with a DPSP and identify considerations that may impact the selection of the DPSP vesting provision.
“Vesting” refers to ownership by a terminating plan member of the plan sponsor’s contributions and the investment income on those contributions.
Group RRSPs are merely a collection of individual RRSPs. Vesting is immediate in a Group RRSP, and contributions made by the plan sponsor are immediately owned by the plan member.
Vesting of the plan sponsor’s contributions to a DPSP can be determined by the plan sponsor subject to ITA rules that require full vesting after a period no longer than two years (i.e., the vesting period can be up to 24 months from the date of first participation in the plan). Plan sponsors are able to make exceptions to their vesting rules, subject to matters that fall under the requirements of Human Rights Legislation.
Since most pension standards legislation requires immediate vesting, and immediate vesting applies under Group RRSPs, employees may expect immediate vesting of DPSP contributions as well.
Generally, if a DPSP plan member terminates employment prior to being vested, the plan sponsor can reclaim its contributions and related investment income. These amounts are called “forfeitures.”
Explain how plan sponsors deal with in-service withdrawals from Group RRSPs and DPSPs.
Rules established about in-service withdrawals will typically reflect the plan sponsor’s purpose for the plan. The purpose of most employers’ plans is to encourage savings that employees can use to provide retirement income and, as a result, the employer hopes that monies contributed to the plan will stay within the plan until the plan member’s retirement.
To discourage in-service withdrawals from a Group RRSP, plan sponsors may suspend contributions. A typical suspension is for a period of six months to a year if a withdrawal is made. In a Group RRSP, these rules often differ based on the type of contribution, i.e., plan sponsor, plan member required or plan member voluntary. Group RRSP withdrawals made for the purposes of the Home Buyer’s Plan (HBP) or Lifelong Learning Plan (LLP) are often excluded from the suspension rules.
In a DPSP, the plan sponsor can determine whether in-service withdrawals of vested amounts will be allowed and whether any additional rules (e.g., suspension of contributions) will apply. DPSP funds do not qualify for either HBP or LLP withdrawals.
Identify tax-effective retirement income options available to a Group RRSP plan member: List
(1) Life annuity.
(2) Registered Retirement Income Fund (RRIF).
(3) Annuity certain (or fixed-term annuity).
(4) Advanced life deferred annuity.
One of these options must be elected before the end of the year in which the plan member attains age 71, otherwise all funds in the RRSP will be paid in cash as a taxable payment.
Locked-in funds held in a Locked-In RRSP or Locked-In Retirement Account (LIRA) can be used to provide income through a life annuity, or a plan similar to the RRIF, called Life Income Fund (LIF) or Locked-In Retirement Income Fund (LRIF), depending upon the jurisdiction. LIFs and LRIFs are similar to RRIFs except that a maximum annual withdrawal is required under the applicable pension standards legislation.
