Death and taxes and income splitting

National Post

2009-02-21


Tax season will soon be upon us, and filers will be kept busy when it comes to optimizing pension income splitting.

Pension splitting, introduced in the 2007 tax year, allows Canadians who received pension income to split up to half of that income with their spouse or common-law partner.

If your spouse or partner is in a lower tax bracket than you are, you should definitely consider the strategy. Other potential benefits could include: doubling the pension income credit, preserving some (or all) of the age credit and avoiding or even entirely eliminating the clawback of Old Age Security benefits (they are reduced when 2008 income is over $64,718 and fully clawed back once income reaches $104,903).

There is no minimum age requirement to split pension income, but age can play a role in determining whether or not your pension income is eligible to be split.

Specifically, annuity-type pension payments from a pension plan will always qualify, regardless of your age, whereas withdrawals from an RRSP don't qualify unless you first convert your RRSP to a RRIF and withdraw the funds once you are at least age 65.

Old Age Security benefits and Canada or Quebec Pension Plan payments do not qualify, but the latter can already be shared with a spouse or partner under separate legislation.

An interesting pension-splitting question has arisen since last year's filing season. The Canada Revenue Agency was asked last fall whether pension income could be split if one spouse died during the year.

In this situation, the deceased's spouse, let's call her Eve, received pension income during the taxation year in which her husband, Adam, died. Adam's executor and Eve would like to split the pension income received by Eve between her and her late husband's estate for tax purposes.

The CRA responded that this was indeed possible, but the maximum amount that could be split would be 50% of the eligible pension income prorated by "the number of months at any time during which...[Eve]... was married... to [Adam.]"

Perhaps overstating the obvious, the CRA explains that since Eve "will not be considered to be married to [Adam] after his death ... the maximum that [Eve] will be allowed to split with [Adam] will represent only a portion of the ... eligible pension income."

So, if Adam had died in February, 2008, the maximum amount eligible to be split would be 2/12 of 50% of the eligible pension income, since Adam and Eve were married for two months in 2008.

This split income must be included in Adam's final tax return and Adam's executor and Eve will have to complete and sign Form T1032 to elect to split the eligible pension income and file that form with each of Adam and Eve's tax returns for 2008.