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Kevin Greenard: Paying RRSP fees from a non-registered account

With managed accounts, there are no annual administrative charges, and no commissions for buying or selling within the accounts. With a managed account, fees are documented with a fee agreement.
Kevin Greenard

With managed accounts, there are no annual administrative charges, and no commissions for buying or selling within the accounts.

With a managed account, fees are documented with a fee agreement. Part of the fee agreement outlines how the fees will be paid. The fees are calculated for each respective account. For example, if a client has a non-registered account, Registered Retirement Savings Plan (RRSP), and a Tax-Free Savings Account (TFSA), then each of these accounts would have a calculated fee, based on the market value of those accounts. How those fees are charged and paid involves a discussion and sometimes involves strategy.

At the bottom of this article is some tax-related information concerning the payment of investment management fees for registered accounts from non-registered accounts. This is important information as it provides comfort for Portfolio Managers to proceed with confidence that the strategy outlined below would not be considered tax avoidance and be penalized. This information is also posted at the bottom of our January 28, 2021, article Extra Deposit into your TFSA.

Both RRSP and TFSA accounts are registered accounts. With the TFSA registered account — 100 per cent of the time we recommend that our clients transfer additional funds into their TFSA account as a “fee payment.” With RRSP accounts, the payment of investment management fees from non-registered funds is only recommended some of the time. Below we will outline those clients who, we feel, are best suited to have the RRSP investment management fees covered from outside of the registered account.

One of the benefits with managed accounts is the fees are 100 per cent transparent and you have the option to pay the fees for registered accounts with additional deposit (i.e. cheque) or simply instructing us to move funds from your non-registered account. This can be automated, or this can be done manually.

Automated payment of fees

The most streamlined process of paying the RRSP account fees is to automate it. We can only do this for clients who have a non-registered account. The one aspect to automating the fees to be paid from the non-registered account is that it must be set up for all the accounts linked in the household. This is fine for clients who are younger and just have a non-registered, RRSP, and TFSA accounts.

For clients who have adult children, or elder parents, linked to their household, then automating the payment of fees from the non-registered account does not work. It is better in these situations to leave the investment management fees to be charged to each of the respective accounts. In these situations, we will make manual payments to the selected accounts periodically. We have outlined the manual method below.

Another scenario is when clients have a corporate or trust account linked to the household. In these situations, we would not recommend automating the payment of fees from the non-registered account. We would recommend that the investment management fee be charged to each of the respective accounts. A manual re-payment of fees can be made to the applicable accounts.

At Scotia Wealth Management, the automation of fee payments is done through a specific form called an Account Designated Billing Fee (CA59) form and the non-registered account the fees are paid from is referred to as the designated account.

Clients should be aware that the holder of the designated account understands and agrees that paying the fees on behalf of another account listed on the Account Designated Billing Fee form does not entitle the holder of the designated account to take a deduction for such fees in calculating such holder’s taxes.

Account Designated Billing Fee form

One of the cautionary items we have clients sign off on the designated billing form relates to performance. The non-registered account where the fees are being paid from will naturally have performance numbers that are understated as a result of paying the fees for all linked accounts. On the flip side, all the other accounts will have overstated performance as no fees payable in respect of the registered account are included where the fees paid are from the non-registered account.

Annual performance and fee report

Annually, towards the end of January, firms will send an annual fee and performance report. For any client that has the Account Designated Billing Fee form set-up, as mentioned above, the performance numbers will be understated for the non-registered account paying all the fees and overstated for all the linked accounts. The same applies when you look at your annual fees paid. The annual fee paid from the non-registered account will be overstated and the linked accounts will have no annual fee. When reviewing these annual reports, it is best to keep in mind the structure of the fees if designated billing is set up.

Income splitting benefits

In some situations, our clients will have two non-registered Joint With Right of Survivorship (JTWROS) accounts. One where the higher income spouse is primary (higher income spouse’s name is first and the higher income spouse’s social insurance number shows on the tax slips) and another where the lower income spouse is primary (lower income spouse’s name is first and the lower income spouse’s social insurance number shows on the tax slips).

These two accounts are typically set up to assist with income splitting and spousal loan arrangements, and for ease of estate administration. See Spousal Loans Help Split Retirement Income for further information.

When a household has two non-registered accounts, we always link the designated account paying the fees to be the higher income spouse. There is no income attribution with respect to the higher income spouse paying the investment management fees of their spouse. Every year, this helps shift more and more income to the lower income spouse from the higher income spouse, resulting in lower overall household taxes.

Manual payment of fees

In those situations where fees are not automated, we can always process the manual payment of investment management fees.

Let’s use Mr. and Mrs. Smith for example — both are in their mid 30s and earning in excess of $100,000 each. They have a non-registered account, two RRSP accounts, a RESP account, corporate account and two TFSA accounts. Combined, all seven accounts equal $1.1 million.

Each account has been charged their respective fee because they have a corporate account. The investment management fees are one per cent. In addition, investment management fees are subject to the Goods & Services Tax (GST) of five per cent. When we do the manual calculations for fees, it will also include the tax component.

We reviewed Mr. and Mrs. Smith’s cumulative RRSP fees and noted that they could each put in $5,312 and $12,231, respectively. We discussed the ability for the Smiths to tax shelter a further $17,543. We obtained their instructions to transfer this amount from their non-registered account to their RRSP accounts. These additional funds will grow tax deferred for over 35 years.

Quick method for paying RRSP fees

There are many factors to consider in determining whether you should pay registered account fees from your non-registered account. We will get into some of the factors later in this article.

To start with, two important factors to consider are your normal taxable income (while working) and age. The younger you are, the more years of deferral you have. The higher your income, the more interested clients may be in tax sheltering cash in a registered account.

Combining both of these factors, The Greenard Group created an RRSP payment of fees grid to help in determining those clients best suited to pay the RRSP investment management fees from their non-registered account.

If it is “Yes” then you should consider paying your RRSP investment management fees from a non-registered account. If it is “No” then having the fees charged, and paid for, within the RRSP is likely the best option.

The guide below is meant as a starting point and is not meant to be used as the only determining factor on whether to pay your RRSP fees from your non-registered account.

Greenard Group – RRSP Payment of Fees Grid

 

Typical Taxable Income (in $)

Age

  50,000

   75,000

 100,000

 125,000

  150,000

 175,000

 200,000

  225,000

  250,000

25

 Yes

 Yes

Yes

Yes

Yes

Yes

Yes

Yes

Yes

30

 No

 Yes

 Yes

Yes

Yes

Yes

Yes

Yes

Yes

35

 No

 No

 Yes

Yes

Yes

Yes

Yes

Yes

Yes

40

 No

 No

 No

Yes

Yes

Yes

Yes

Yes

Yes

45

 No

 No

 No

 No

Yes

Yes

Yes

Yes

Yes

50

 No

 No

 No

 No

 No

Yes

Yes

Yes

Yes

55

 No

 No

 No

 No

 No

 No

Yes

Yes

Yes

60

 No

 No

 No

 No

 No

 No

 No

Yes

Yes

65

 No

 No

 No

 No

 No

 No

 No

 No

Yes

70

 No

 No

 No

 No

 No

 No

 No

 No

 No

Paying RRSP fees

If you have looked up both your age and your income and you fall in the “Yes” category then the next step is to quantify what the total fees are. One of the benefits of having a long and stable relationship with one financial firm is the ability for your Portfolio Manager to look up historic numbers. Cumulative fees from inception is one example of this. On our system we are able to look up the total fees billed for a specific account going back to when the account was first opened. If you have changed financial firms recently then these types of historical numbers are lost.

Maximizing RRSP contributions

It is important to note that if you have the RRSP deduction limit then the RRSP contribution should first be utilized. This article is really focused on those individuals who have maximized their RRSP deduction limit and still wish they could tax shelter some of their non-registered account funds. We would always recommend utilizing the deduction limit prior to covering RRSP investment management fees. Many individuals have a defined benefit pension plan which reduces the amount they can put into an RRSP. If you are a member of a defined benefit pension plan and would like to put more money into your RRSP then the payment of investment management fees may be one option.

Ratio of non-registered to registered

Individuals who are considering paying the RRSP fees from outside of the account would require extra cash either in their bank account or in a non-registered account. Often, we look at the ratio of non-registered to registered funds in a consolidated portfolio. For example, if you have $800,000 in a non-registered account and $200,000 in a registered account, then it may make sense to transfer some of the non-registered funds into the registered account. Essentially, you want to have balance between deferral and liquidity without excessive tax costs. Funds within an RRSP gets you the deferral piece.

Duration to when funds are needed

The number one advantage to an RRSP account is deferral. If the funds can stay in the RRSP account and grow over the years without immediately being taxed, then this helps. On the above chart you will see that after age 65 we will typically not recommend that RRSP investment management fees are paid for from a non-registered account. The shorter the time period to when you must begin to pull a portion of your funds out starts diminishing the benefit. In some situations, it may still make sense. The above chart is for general guidance only.

Future income a key component

One of the components to consider is your future income. In the above chart we used the term normal taxable income. One of the exercises that we do with clients is to try to smooth out their taxable income. If you feel that your taxable income will be highest in retirement, then the strategy of paying RRSP investment management fees with non-registered funds is less advantageous. If you feel that you will be in a low income tax bracket in retirement then the strategy nearly always makes sense.

Genetics and good health

One of the concerns that many clients have is outliving their savings. If you are in good health, and have longevity in your genetics, then funding an RRSP fully to get many years of deferral normally makes sense. If you are in poor health, poor genetics, or have underlying health concerns then we normally recommend not paying your RRSP investment management fees from a non-registered account.

Singles versus couples

One of the negatives to an RRSP account is the tax consequences if you are to pass away at a younger age. If you are single then the value of your RRSP becomes fully taxable upon death. Couples have the ability to name each other beneficiaries on each other’s RRSP accounts and can reduce this risk substantially. Essentially, the RRSP accounts would not have a deemed disposition until the second passing. Paying investment management fees from a non-registered account to an RRSP typically makes more sense for couples. Couples also have the flexibility to do income splitting once RRSP accounts are converted to a RRIF account (at age 65 and older).

The advantage rules

The advantage rules are set out by the Canada Revenue Agency (CRA) and are in place to prevent abusive tax planning in registered accounts. The CRA announced on November 27, 2016 at the Canadian Tax Foundation Conference the intention that those people who are paying their registered account investment management fees from a non-registered account may be liable for a penalty equal to the investment management fees paid starting January 1, 2018. At that time, CRA’s stance was that the advantage rules needed to be imposed.

The following is from the CRA website: The Act imposes a special tax if certain supplementary advantages are provided in relation to a registered plan. The tax is equal to the amount of the advantage and is payable by the annuitant, subscriber or holder of the plan, unless the advantage is extended by the issuer, promoter or carrier of the plan, in which case it is payable by the issuer, promoter or carrier. The person responsible for the tax is required to file a special tax return and remit the tax.

Since the 2016 announcement, many petitions were submitted by the investment industry. CRA then delayed the implementation to January 1, 2019. In 2019, CRA delayed the advantage rules, and the applicable advantage taxes, once again pending a review by the Department of Finance Canada.

On August 26, 2019, the Assistant Deputy Minister wrote the following letter:

Mr. Geoff Trueman
Assistant Commissioner
Legislative Policy and Regulatory Affairs
Canada Revenue Agency
Ottawa, ON K1A 0L5

Dear Mr. Trueman:

“Advantage”: Exclusion for Investment Management Fees

l am writing in regard to discussions between officials of the Canada Revenue Agency and the Department of Finance Canada regarding the definition “advantage” in subsection 207.01(1) of the Income Tax Act (the Act).

Investment management fees of registered plans, such as a Tax-Free Savings Account or a Registered Retirement Savings Plan, are normally expected to be paid using funds from within the plan. If the fees are paid directly by the holder/annuitant using funds outside of the plan, the resulting indirect increase in the value of the plan assets might be viewed as an advantage under the Act, if one of the main purposes is to benefit from the tax-exempt status of the plan.

Even so, we have no tax policy concerns with respect to the payment of investment management fees directly by the annuitant/holder of the registered plan. It is not evident that plan holders are tax-motivated when entering into arrangements to directly pay the investment management fees of their financial service providers. Generally, the direct payment of fees results in either a net loss, or negligible gain, for the plan holder. We are therefore prepared to recommend to the Minister of Finance that the Act be amended to clarify that the payment by a controlling individual (as defined in subsection 207.01(1)) of investment management fees that pertain to a registered plan does not constitute an advantage for the plan.

Specifically, we are prepared to recommend that paragraph (b) of the definition “advantage” in subsection 207.01(1) be amended such that it does not apply to payments by a controlling individual of a registered plan, not exceeding a reasonable amount, of fees described in paragraph 20(l)(bb) of the Act.

We also intend to recommend that the proposed amendment apply in respect of the 2018 and subsequent taxation years.

Thank you for engaging with us on this matter.

Yours sincerely,

Brian Ernewein
Assistant Deputy Minister – Legislation
Tax Policy Branch

Between Nov. 27, 2016, and Aug. 26, 2019, investors were left in limbo not knowing whether the advantage rules would apply. After nearly three years of waiting, investors received the comfort letter that they were waiting for — namely, that the advantage rules would not apply.

Discretion does not include transfers

As a Portfolio Manager, we do not have discretion to move money between accounts until we have specific forms signed or verbal instructions. The movement of fees from the non-registered account to pay other account fees is done primarily through a verbal discussion with our clients. Another common method to pay for fees is to deposit a cheque. The fees paid would be either a cheque deposit or transfer, and we would code this as a “fee payment”. It is important to note that whether this fee payment is done by cheque or non-registered account transfer, it must not be coded as a “contribution.” We recommend specifically writing on the cheque “RRSP – fee payment” in the memo line of the cheque.

As you can see, there are many items to factor in when determining if paying back fees into your RRSP makes sense for you. We recommend discussing with your Portfolio Manager all pertinent factors and decide what is best for your situation.

Kevin Greenard CPA CA FMA CFP CIM is a Portfolio Manager and Director, Wealth Management, with The Greenard Group at Scotia Wealth Management in Victoria. His column appears every week at timescolonist.com. Call 250-389-2138, email kevin.greenard@scotiawealth.com, or visit greenardgroup.com.