Tax Deductions Today - Bigger Retirement Nest-Egg

Retirement planning is a crucial consideration for physicians and business owners in Canada, yet many are still relying solely on Registered Retirement Savings Plans (RRSPs) or saving through their corporations. A Personal Pension Plan (PPP) offers significantly greater tax efficiency and wealth-building opportunities. Despite these benefits, only 3% of Canadian business owners take advantage of PPPs or Individual Pension Plans (IPPs), leaving the vast majority stuck in less efficient savings strategies.

In this article, we’ll explore 12 tax-efficient reasons why physicians and business owners should choose a PPP over an RRSP or saving through their corporation.

What is a Personal Pension Plan (PPP)?

A PPP is a defined benefit pension plan with an additional flexible defined contribution component designed for incorporated professionals and business owners. This defined contribution plan component is what makes it the best option compared to the Individual Pension Plan (IPP) which is still a good plan but has had the challenge of requiring mandatory contributions. BY having defined contribution, it allows for flexibility for instance in years when cash flow is low. It provides more generous tax deductions and savings opportunities compared to an RRSP and can dramatically enhance retirement wealth through corporate tax efficiencies and flexible contribution rules.

Let’s explore the powerful advantages a PPP offers over RRSPs and corporate savings.

1. Dual Contribution Opportunity in the First Year

One of the immediate benefits of a PPP is that customers can make both an RRSP contribution and a pension contribution in the first year. This allows for accelerated savings and increased tax deductions right from the start, providing an unmatched head start on retirement planning.

Example: Dr. Smith, an incorporated physician earning $150,000 annually, contributes $27,000 (18%) to their RRSP and an additional $27,000 to their PPP in the first year. This results in $54,000 of retirement savings and corporate tax deductions in just one year.

2. Additional RRSP Contributions in Subsequent Years

Even after the first year, PPP participants can still contribute up to $600 annually to their RRSP. This creates an additional layer of savings and tax deductions beyond the limits of a standard RRSP, giving business owners more room to grow their wealth.

3. Tax Deductions for Past Service Contributions

PPP customers can purchase past service for prior T4 earning years, unlocking additional corporate tax deductions. By recognizing previous years of service, business owners can make lump-sum contributions to the PPP and enjoy immediate tax benefits.

Example: Jane, a business owner with 10 years of prior T4 income at $100,000 per year, purchases past service for those years. This results in a lump-sum contribution of $180,000, fully tax-deductible by the corporation.

4. Special Payment Deductions for Underperforming Assets

If the assets in a PPP yield a rate of return below 7.5%, the sponsoring corporation can make special payments to compensate for the shortfall. These payments are fully tax-deductible at the corporate level, providing another unique advantage over RRSPs.

5. Tax Deductibility of Interest on Borrowed Funds

When a corporation borrows money to contribute to a PPP, the interest paid on the loan is tax-deductible. This feature enables business owners to leverage borrowed capital in a tax-efficient manner to grow their retirement savings.

Example: A corporation borrows $100,000 at a 5% interest rate to fund PPP contributions. The $5,000 in annual interest payments are fully tax-deductible, reducing the corporation’s taxable income.

6. Increasing Contribution Rates with Age

While RRSP contributions are capped at 18% of income, PPP contribution rates start at the same percentage but increase each year. By age 64, contribution rates can reach 29.5%, allowing for significantly greater retirement savings over time.

7. Terminal Funding for Additional Tax Deductions

When a PPP participant opts for early retirement, the plan permits massive additional corporate tax deductions through terminal funding rules. This creates an opportunity for large, final contributions that enhance both retirement income and tax savings.

This capacity to triple the tax deductions available through an RRSP makes the PPP a powerful retirement planning tool.

8. Income Splitting at Any Age

Income drawn from a PPP can be split with a spouse at any age, unlike RRSP withdrawals, which only allow income splitting after age 65. This flexibility helps reduce overall family tax liability and enhances after-tax income.

9. Tax Efficiency for Beneficiaries

When a PPP holder passes away, the tax burden on plan assets falls on the beneficiaries, enabling potential income splitting and minimizing the tax impact. In contrast, RRSP assets are taxed entirely in the hands of the deceased, often at the highest marginal tax rate.

10. Lower Withholding Tax for Non-Residents

For those retiring outside of Canada, pension income from a PPP often benefits from a flat 15% withholding tax rate. RRSP withdrawals, on the other hand, are typically subject to a higher 25% withholding rate. This can result in significant tax savings for non-resident retirees.

11. Bypass of Death Tax with Surplus Assets

PPP surplus assets bypass Canada’s “death tax” rules if children are members of the pension plan. By contrast, RRSP cash is fully taxed on the second death, often depleting a significant portion of the estate.

12. Access to a Broader Range of Investment Opportunities

PPP funds can be invested in asset classes that are off-limits to RRSP investors, such as infrastructure projects like Highway 407. This broader investment scope provides greater diversification and potential for higher returns.

Why PPPs Are Superior to Corporate Savings

While many business owners save for retirement through their corporation, this approach offers limited tax advantages and exposes savings to corporate risk. By directing funds into a PPP, business owners benefit from enhanced tax deductions, greater investment flexibility, and superior estate planning options.

Implementing a Pension Solution

Steps to Set Up a Pension Plan

1. Consult a Pension Specialist: Work with a qualified advisor to determine the most suitable pension plan for your needs, whether Individual Pension Plan or Personal pension Plan.
2. Establish the Plan: Register the pension plan with the Canada Revenue Agency (CRA) and the provincial pension authority.
3. Determine Contribution Levels: Calculate annual and past service contributions based on age, income, and years of service.
4. Invest Pension Funds: Choose a diversified investment strategy to maximize long-term growth.
5. Monitor and Maintain: Ensure compliance with regulatory requirements and adjust contributions as needed.

Costs and Considerations

While pension plans offer significant tax and retirement benefits, they also involve administrative costs and regulatory compliance. It’s essential to weigh these factors and work with experienced professionals to manage the plan effectively.