Income splitting is a tax planning strategy that shifts income from a higher income earner to a lower income earner in order to reduce the overall tax paid by the family.
While there are various income attribution rules in the Income Tax Act that restrict income splitting strategies, one strategy that is widely utilized during retirement is pension income splitting.
Canadian residents who receive eligible pension income can allocate up to 50% of this income to their Canadian resident spouse thereby reducing taxes by shifting income from a higher income earner to a spouse who is in a lower tax bracket. As a further benefit, by keeping the retiree’s taxable income below a certain threshold, they can reduce the amount of the Old Age Security (OAS) claw back each year.
Only certain types of income qualify as eligible pension income depending on the recipient’s age.
For individuals aged 65 and over, eligible pension income includes:
Prescribed annuity payments
Lifetime annuity payments under a registered pension plan (RPP), a registered retirement savings plan (RRSP) or a deferred profit sharing plan (DPSP) and
Payments from a registered retirement income fund (RRIF)