What to do after maxing out RRSP and TFSA

The best advisors ensure clients take advantage of all tax-efficient retirement and savings vehicles. But what happens if a client has already maxed out his or her RRSP, TFSA and personal pension room — and has additional funds to spare?

David Gorveatte, an advisor with Investia Financial Services in Fredericton, N.B., has had clients in this situation. He offers a few options.

For those wanting to save more for retirement, he suggests corporate-class mutual funds. With this structure, the fund only distributes dividends and capital gains dividends, which are more tax-efficient than regular income. And, until January 1, 2017, clients can switch between corporate-class funds without triggering tax.

After saving with corporate-class mutual funds, clients can draw down this income after they’ve retired using T-series funds, says Gorveatte. These funds distribute return of capital, which is not taxed. As the original capital investment depletes, its adjusted cost base (ACB) decreases too. Tax is only triggered once the fund units are sold or the ACB reaches zero. The lower the ACB, the higher the eventual capital gain.

Read: Tax and ETFs: what you need to know

For high-net-worth clients who want to put excess savings toward estate planning, Gorveatte recommends overfunding a universal life policy. The cash value or investment portion of the policy grows tax-free, can be used to fund premiums and is paid out as a lump-sum death benefit without tax deductions. “This strategy is for a certain sub-segment and should only be offered after a detailed client conversation clarifying needs and goals [and] ensuring they’re in the right tax bracket,” he notes.

Suitable clients include those buying a policy in their 50s, with good health and a high level of additional funds to put away. Clients purchasing a larger policy when younger may also be suitable: the policy will have smaller premiums, so there’s more money to keep in the cash value. The amount that’s allowed to be contributed is calculated every year based on performance, but is limited to a maximum amount based on MTAR rules. These rules are changing in 2017 so, although still helpful, it will be less attractive in future to save using this method.

Lenore Davis, senior partner at Dixon, Davis & Company in Victoria, B.C., who has many clients that are mid-level provincial government employees, takes a localized approach. “If a client is able to cover living expenses and has maxed out tax-advantaged accounts, I focus on leveraging the Vancouver Island real estate market for tax-efficient cash flow through rental income,” she says.

Read: Help a client become a landlord

Choose a strong rental market with positively trending property prices, Davis suggests, such as in smaller towns on Vancouver Island. The building should be able to house multiple tenants to reduce risk and remain diversified, with a duplex or triplex being ideal. She cautions against buying anything upscale, as it has to be rentable and affordable.

Debt servicing and operating costs are often high, but can be written off to reduce tax. In the early stages, it’s unlikely that rental income will cover the shortfall, but the loss helps reduce total income. Later, the property can produce steady cash flow, and when sold, the proceeds are likely to be taxed as capital gains.

Davis notes this strategy isn’t for everyone. “Advisors need to drill down with clients to ensure they understand the risks and are comfortable with the additional debt they would be carrying.” There’s also the added responsibility of being landlords.

Some clients may prefer simpler solutions.

Chet Brothers of Brothers & Company Financial in Regina, Sask., has a client base comprising senior managers and executives in crown corporations and private companies, as well as small and medium-sized business owners. He says it’s easy to focus more on tax than the risk to capital. “The top tax rate is punishing at 48% [in Saskatchewan], and although no one likes paying tax, it’s better than having 100% of assets tied up in equity,” Brothers says.

Read: Why government bonds aren’t safe

Stable, dividend-paying companies are a tax-efficient way to gain long-term capital appreciation, he explains. Clients who own corporations can shelter surplus savings in their businesses. Tax is deferred, just like with an RRSP. And if the company is incorporated, Brothers recommends paying dividends instead of salary (depending on the province).

“Making people’s lives more complex by paying less tax isn’t doing them a service,” notes Brothers. “It’s better to preserve and grow capital than try to be smart and escape tax.”