Be careful about RRSP withdrawals

When clients withdraw money from their RRSPs or RRIFs, they will pay tax at their marginal tax rates on the money withdrawn. The only exceptions are when funds are withdrawn under the Home Buyers’ Plan to purchase a first home or under the Lifelong Learning Plan to attend post-secondary education.

A recent tax case involved a taxpayer who was appealing her 2009 tax assessment. The issue was whether she should have included a $105,000 RRSP withdrawal in her 2009 income.

She withdrew the funds from her RRSP because this was the only source of funds available to her to pay for a back surgery, which was performed outside Canada. She felt that the “Canadian health system failed [her]…as she was unable to find a qualified surgeon to perform the surgery in Quebec, her province of residence.”

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In 2006, the taxpayer suffered a herniated disk and consulted with a number of doctors to obtain treatment for her back. She was ultimately referred to a pain clinic where the doctors prescribed painkillers. Both the neurosurgeon and orthopedic surgeon who evaluated her concluded that she was not a candidate for surgery.

Her condition rapidly deteriorated with the herniation of two additional disks and she suffered from loss of mobility and chronic pain. Having been unable to get the surgery done at home, she contacted a former Canadian surgeon practising in Switzerland for a second opinion.

This surgeon felt that she would benefit from surgery and tried to convince the Quebec surgeon, a former colleague, to perform the operation but he refused. As a result, the taxpayer had the surgery performed in Switzerland at her own, considerable expense.

Don’t overcontribute

The consequences of inadvertently overcontributing to RRSPs and TFSA can be quite costly. Excess RRSP contributions are subject to a special tax of 1% per month (up to a maximum of 60 months) on the excess amount beyond a $2,000 limit. A taxpayer who overcontributes must also file an annual T1-OVP return to report the excess contribution and is liable for interest and penalties for either not filing the form or filing it too late.

Before resorting to pulling the funds out of her RRSP to fund the operation, she applied to get a mortgage on her home but was turned down. She then approached the administrator of her self-directed RRSP to see if there was a way she could withdraw funds from her RRSP on a tax-deferred basis, but was told this could not be done either.

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Later on, after the funds had already been withdrawn, the taxpayer learned that she could have withdrawn the needed funds as a mortgage loan from her self-directed RRSP. She testified that if she had known about this option at the time, she would have done this.

Under the Income Tax Act, you can use the funds in your RRSP to invest in a mortgage on Canadian real estate; however, there are strict rules in place if you, or someone related to you, owns the property being mortgaged (i.e. your own home). Such a mortgage, known as a “non-arm’s length mortgage,” must be administered by an approved lender under the National Housing Act. The interest rate and other terms and conditions must reflect normal commercial practices and the borrower must purchase private or CMHC mortgage insurance.

But because the taxpayer did not structure the withdrawal as a mortgage investment made by her RRSP, she had to pay tax on the RRSP withdrawal. She asked the Judge to relieve her of her obligation to pay tax on the withdrawal since she used the funds to pay for medical services “that should have been covered under Canada’s health plan. In so doing, she saved Canadian taxpayers the cost of her treatment, which was greater than the income tax on her RRSP withdrawal.”

Unfortunately, the Judge was unable to make any exceptions to the law and found that the taxpayer was required to include the RRSP withdrawal in her income. On a positive note, though, the Judge did confirm that she was able to receive full tax relief for the medical expenses she paid through the medical expense tax credit.

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Jamie Golombek

Tax & Estate

Managing Director, Tax and Estate Planning, CIBC Private Wealth Team Jamie Golombek is Managing Director, Tax and Estate Planning with CIBC in Toronto. As a member of the CIBC Private Wealth team, Jamie works closely with advisors from across CIBC to support their clients and deliver integrated financial planning and strong advisory solutions. He joined the firm in 2008 after 12 years with a global investment company, where he was involved in both internal and external consulting on all areas of taxation and estate planning. Jamie has also worked for Deloitte as a tax specialist in the Toronto office, where he specialized in both personal and corporate tax planning. Jamie is quoted frequently in the national media as an expert on taxation. He writes a weekly column called “Tax Expert,” in the National Post, has appeared as a guest on BNN, CTV News, and The National, and for several years was a regular personal finance guest on The Marilyn Denis Show. He received his B.Com. from McGill University, earned his CPA designation in Ontario and qualified as a US CPA in Illinois. He has also obtained his Certified Financial Planning (CFP) and Chartered Life Underwriting (CLU) designations. In 2023, Jamie was named a CPA Ontario Fellow. The FCPA is the highest distinction that can be bestowed upon a CPA who brings distinction to themselves and to their profession through leadership and achievement in their professional, community or personal lives. Jamie is a past chair of the Investment Funds Institute of Canada’s Tax Working Group. He is also a member of CPA Ontario, the Illinois CPA Society, the Estate Planning Council of Toronto, the Canadian Tax Foundation and the Society of Trust and Estate Practitioners. For nearly two decades, Jamie taught an MBA course in Personal Finance at the Schulich School of Business at York University in Toronto.