Editor’s note: While this article was published in 2014, the author has confirmed this article is still accurate as of February 2020.
Advisors frequently ask about the pension income tax credit and whether clients qualify.
While the credit doesn’t provide significant tax savings, being eligible for it has implications for some planning strategies that do, such as pension income splitting. As more couples take advantage of this strategy, the pension income amount becomes a focal point of their tax planning.
The pension income amount allows a taxpayer to claim a federal non-refundable tax credit on up to $2,000 of eligible pension income. The federal tax credit rate is 15%, so the maximum federal tax savings available is $300 ($2,000 × 15%).
There are also provincial pension income amounts. By claiming it clients receive the first $2,000 of pension income on a tax-free basis, but only if they’re in the lowest tax bracket (since the tax credit rate is capped at 15%). If they’re in a higher bracket they’ll pay tax on the pension income, but at a reduced rate.
Income-splitting rules allow taxpayers to split up to 50% of eligible pension income with a spouse or common-law partner. The important issue is determining what type of pension income qualifies.
Age is an important factor. Those over 65 have easier access to the pension income amount since more sources of income qualify. If they report amounts on lines 115, 116 or 129 of their federal tax returns, they may be eligible for the pension income amount.
Here’s what qualifies for clients over 65:
- Life annuity payments from a superannuation or pension plan. This includes income from life income funds (LIFs) and locked-in retirement income funds (LRIFs)
- RRIF payments (any portion that’s transferred to an RRSP, another RRIF, or used to purchase an annuity does not qualify for the pension income amount)
- RRIF payments received as a result of the death of a spouse or common-law partner
- Annuity payments from an insured RRSP (those typically offered by insurance companies) or from a deferred profit sharing plan (DPSP)
- Payments from a Pooled Registered Pension Plan (PRPP)
- Regular annuities and income averaging annuity contracts (IAAC)
- Certain foreign pension payments (see below)
For clients under age 65, the list of qualified pension income for purposes of claiming the pension income amount (and pension income splitting) is more restricted. Only a few of the items listed above are available. They include:
1. Life annuity payments from a superannuation or pension plan.
Regardless of your client’s age, she will qualify for the pension income amount if she’s receiving annuity payments from an employer pension plan. But it’s important to note that when a client commutes a pension to a locked-in retirement plan, the income from these plans (e.g. LIFs, LRIFs) will not qualify for the pension income amount until the client reaches age 65.
CRA’s position is that income from a locked-in plan is simply a retirement savings plan, not a pension plan, and that the pension income amount should not be available until age 65. Unless this changes it may impact whether your clients decide to commute their pensions when they retire.
2. Payments from a RRIF, or annuity payments from an RRSP, DPSP or PRPP received because of the death of a spouse or common-law partner.
For clients under age 65, RRIF income, DPSP income, annuities, PRPP income, income-averaging annuity contracts, or RRSP income will only qualify for the pension income amount if they’re received because of the death of a spouse or common-law partner.
Some clients receive a foreign pension and may wonder if they qualify for the pension income amount. In general, foreign pensions reported on line 115 of the client’s tax return may qualify for the pension income amount regardless of age, but only for the portion of pension income that’s taxable.
For example, clients receiving U.S. social security benefits are permitted a 15% deduction on their Canadian tax returns due to specific provisions in the Canada-U.S. tax treaty. In this case, only the taxable portion of the Social Security Benefit is considered pension income and qualifies for the pension income amount.
It’s also important to know what doesn’t qualify for the pension income amount:
- Old Age Security benefits
- Canada Pension Plan benefits
- Quebec Pension Plan benefits
- Death benefits
- RCA payments
- Benefits from Salary Deferral Arrangements
- Income from a U.S. Individual Retirement Account (IRA)
Frank Di Pietro, CFA, CFP, is assistant vice-president of tax and estate planning at Mackenzie Investments. He can be reached at firstname.lastname@example.org.