In retirement, you’ll want every financial advantage that you can muster. Accordingly, you’ll want to minimize a possible OAS clawback.
The Old Age Security (OAS) pension is a monthly benefit paid by the Canadian government. The benefit is available to Canadian citizens 65 years of age or older.
Over time, many Canadians create a retirement plan. This plan might include savings, investments, and private pension plans. It also usually includes a national benefit such as OAS.
When you retire, you may depend on OAS for income. If so, it’s important to understand how it works.
Qualifying for OAS
OAS benefits start when you turn 65. You can qualify for OAS regardless of your work history.
What does matter is that you live in Canada when you apply for OAS. Also, you must have resided in Canada for at least ten years after you’ve turned 18.
You can also qualify for OAS if you move to Canada after turning 18. However, you’ll need to have lived in Canada for a minimum of 20 years. As long as you meet these requirements, you should qualify for the benefit.
Also, there are other scenarios where you might qualify for OAS. For example, Canada has Social Security agreements with other countries.
As an example, Canada has had an agreement in place with the United States since 1984. According to the agreement, individuals who’ve worked in Canada and United States can earn credits toward the Canadian OAS program and the Canada Pension Plan.
What is an OAS Clawback?
A clawback occurs if your income exceeds a specified threshold. If you pass the threshold, you may need to repay some of your OAS benefits. The official name for the clawback is the Old Age Security Pension Recovery Tax.
The OAS clawback threshold changes every year. The government adjusts the threshold amount to keep pace with inflation.
In 2020, for instance, it was $79,054. If you retired in 2020 and your income exceeded that amount, you would need to pay back all or part of your OAS pension.
The government will calculate your clawback for every dollar that you’ve earned over $79,054. For each dollar over that amount, you’d pay an additional 15% in taxes.
The Canada Revenue Agency will then add a 15% clawback to your current tax rates. They’ll recover the clawback by reducing your monthly OAS payment.
The government will review your OAS account every year. One year, you could earn too much. However, the next year you might earn less.
In this case, you may find that you’re eligible for relief. The Canada Revenue Agency allows for hardship provisions that might enable you to skip your next repayment obligation.
Deferring OAS for Increased Monthly Payments
Deferring your payments is a great way to increase your monthly benefits. However, you would have to wait a little longer to retire.
In some cases, you may have to live below your means to allow for a higher monthly payment. If you start planning early enough, though, you can make investments that will help to cover your expenses while you defer your OAS payments.
For example, you may want to consider opening a Registered Retirement Savings Plan (RRSP) or Tax-Free Savings Account (TFSA)—more on making the most of these investments in a moment.
Most people retire around the age of 65. However, your OAS benefit will increase by 0.6% for every month that you defer your retirement.
Imagine that your OAS benefit is $570. Now, presume that you deferred your OAS payments for three months.
In that case, you’ll receive a 1.8% increase in OAS payments. That increase amounts to $10.26 extra each month.
You can defer your OAS payments for up to five years. The government allows you to defer your payments until you turn 70 years old. If you use the full deferment period, you can increase your benefit by as much as 36%.
Revisiting our example, that would add $205 a month to your $570 monthly payment. In total, you’d receive an OAS benefit of $775 every month. In other words, you’d receive an extra $2,460 in benefits every year.
Is OAS Deferral Right for Me?
There are a couple of things that you should know about OAS deferral.
Firstly, if you choose to defer early payments, you’ll automatically lose eligibility for the Guaranteed Income Supplement (GIS). GIS benefits are for individuals with incomes below the maximum annual threshold.
The Canadian Revenue Agency (CRA) will review your eligibility for the GIS program each year. They’ll base their assessment on your federal income tax and benefit return.
Also, it’s important to realize that the CRA will continue to assess your income for clawback after you retire.
This income will include any funds that you received from the Canada Child Benefit program. It will also include the benefits you receive from the Registered Disability Savings plan.
If you’re close to the clawback threshold and choose to defer OAS payments, make sure that your total income won’t exceed the salary threshold.
Strategies for Limiting OAS Clawback
There are a few ways that you can avoid an OAS clawback. As an example, you can split your pension with your spouse.
Supposing your spouse has a lower income, you can transfer up to 50% of your income to their name. For example, you could transfer annuity and Registered Retirement Income Fund (RRFI) payments to your spouse to reduce your total yearly income.
It’s important to understand that RRFI payments are only tax-deferred. Eventually, you’ll have to pay taxes on funds that you invest in an RRFI.
Accordingly, you may want to consider using those funds before you retire. This way, you won’t lose income due to an OAS clawback.
Finally, you might want to use a tax-free savings account (TFSA) to generate investment income. This tactic is a nontaxable way to earn income. More importantly, your TFSA earnings will not count for the purposes of assessing your total gross income for the year.
A Closer Look at Tax-Free Savings Accounts
If you have a generous employment pension, it’s not that difficult to surpass the minimum OAS income recovery threshold. Along with your pension, you may also collect OAS, Canada Pension Plan (CPP), and RRIF benefits.
Over time, the cost-of-living increases. Resultantly, people are continually looking for ways to increase their cash flow.
However, they want to do so without paying higher taxes.
You can achieve these goals by taking advantage of the full tax-free savings account contribution limit. The investment that you make to your TFSA won’t get taxed. More importantly, you won’t have to worry about interest payments increasing your chances of paying OAS recovery taxes.
Currently, the maximum you can contribute to a TFSA is $69,500. If you’re married, this means that you can contribute up to $139,000 to a TFSA as a couple. Together, you can collect tax-free income on your TFSA returns.
Start Planning Now for an Early Retirement
Many people would love to retire early. However, unless you have a well-paying job with great benefits, realizing this dream can prove challenging. Still, that doesn’t mean it’s impossible.
It isn’t easy to place an exact dollar amount on how much you’ll need to retire comfortably. Some people can live with much less money than others. These individuals can manage the expenses of living with less income.
However, most people want to maintain the same quality of life that they enjoyed in their working years when they retire. In this case, you’ll need to figure out how to continue to do so using a combination of your savings and investments.
If you’re young, you might want to invest in riskier portfolios to build your nest egg. However, if you’re closer to the age of retirement, you should consider safer investment options as you may need to start withdrawing funds sooner.
Build a Sound Financial Future With the Right Information
Now you know more about how to minimize your OAS clawback. However, there are other areas of your finances that you might want to consider. For example, finding the right insurance is an important part of managing your finances effectively.
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