Determining eligibility for foreign pension transfers to a client’s Canadian RRSP can be difficult, with tax treaties, pension definitions and other countries’ transfer rules all contributing to the complexity. Advisors can help make the transfer as smooth as possible with these three steps.
Check that the benefit qualifies as a pension
If a client has accumulated retirement assets as a non-resident of Canada and is interested in transferring that benefit to their RRSP, the first step is to determine if the benefit qualifies as a pension under the Income Tax Act (ITA) based on the following criteria:
- contributions must be made by an employer for an employee to provide a future pension income,
- the benefit paid must be a lump sum for transfer,
- the pension benefit must be attributable to employment while the employee was a non-resident of Canada, and
- the pension benefit must be included in income for the year and can’t be exempt from tax in Canada due to an income tax treaty.
What if the foreign account in question is like an RRSP — will it qualify? The short answer is no. The only foreign individual retirement account that qualifies is a U.S. individual retirement account (IRA), which is covered by a different provision of the ITA. If the account is not an employer pension or IRA, it is not eligible for transfer.
However, clients may still be able to bring these accounts to Canada. Canadian residents are taxed on worldwide income, so withdrawals from foreign retirement accounts — whether lump sum or periodic — are still taxable income. Foreign tax credits may be available to offset foreign tax withheld on such withdrawals. If adequate RRSP room exists, withdrawals from the foreign accounts can be contributed to an RRSP. That would create the necessary deduction against the original withdrawal. This strategy could be used over several years, as it would not be restricted by the ITA’s foreign transfer provisions.
Check foreign rules regarding pension transfers
Some countries have their own rules for pension transfers that can prevent a transfer even if that pension would meet the ITA requirements above. Failure to comply with the home country’s rules may also result in punitive tax penalties.
Other countries may require government approvals to transfer pensions to foreign jurisdictions or require that foreign accounts meet local pension laws or provisions. The U.K., for example, has a list of recognized overseas pension schemes to which U.K.-based pensions can be transferred. Advisors can consult the foreign government’s customs and revenue agency website for pension transfer information or contact the foreign pension plan administrator to ask about transfer options for non-residents.
Review tax treaties
The last requirement for foreign pension transfers under the ITA is that the foreign pension benefit be included in income for Canadian tax purposes. If a provision of a tax treaty allows for the foreign benefit to be exempt from Canadian tax, a deduction may be claimed on a client’s Canadian tax return to offset the income inclusion from the pension withdrawal. But there’s a catch: if your client claims this deduction, they can’t claim the deduction for the foreign pension transfer and any RRSP contribution would require contribution room.
Finally, an exemption from Canadian tax in a tax treaty does not necessarily mean the pension income is exempt from tax in its home country. In such cases, clients have two options:
- Transfer the foreign pension plan to their RRSP and forgo the deduction under the tax treaty that would have exempted the foreign pension withdrawal from Canadian tax, with no impact on their RRSP limit; or
- Withdraw the foreign pension amount and take the available deduction under the tax treaty, exempting the amount from Canadian tax. Any RRSP contributions would be limited by the contribution limit.
In the alternative scenario, where a foreign pension is exempt from local tax but taxable to Canadian residents under the prevailing tax treaty, the pension could be transferred to an RRSP, assuming the pension meets the requirements for the foreign pension transfer deduction. The fact that no foreign tax would apply may make such a transfer attractive from a numbers perspective.
With almost 200 countries in the world and 93 Canadian tax treaties, it’s challenging to know which foreign pensions are eligible for transfer to an RRSP. The process above can be used to help clients evaluate their options. Advisors should partner with a tax advisor familiar with these areas to confirm the fine points and navigate the complexities.
Curtis Davis, FMA, CIM, RRC, CFP, is senior consultant for tax, retirement and estate planning services, retail markets, at Manulife Investment Management.