US pension transfer to a Canadian RRSP?

The if, when, what & how of repatriating retirement savings

We Canadians share much with our southern neighbour, well beyond the world’s longest undefended border. Many of us have stints or entire careers in the United States, then return home to Canada.

However, pension savings don’t automatically come back with us. While that money could remain tax-sheltered there, then drawn and taxed in our later years, it could simplify things if those savings could come back home too.

The process to make this happen is a bit complicated, but manageable with good preparation. Mechanics aside, the most important issue to understand is the taxation – and potential double-taxation – that may result if you’re not careful .

What plans qualify?

Generally, the kind of US plans we’re talking about are:

- 401(K) plans – The contributing employer-sponsor is a private sector for-profit enterprise
- 403(B) plans – For government employees, and those in religious, education and non-profit sectors
- IRAs – Individual retirement accounts, which are self-contributory plans similar to our RRSP

Plans from other countries may also qualify, but US plans are seen most frequently, again given the close proximity and economic ties between our two countries. Notably, if the foreign pension benefit is exempt from Canadian tax then these rules can’t be used.

You can’t transfer directly to your RRSP

From your personal view, you expect it all to remain tax-sheltered, so why shouldn’t you be able to make a direct transfer to your RRSP? Well, apart from maintaining the sovereignty and privacy of our tax system, there could be conflicting definitions, timing mismatches, and of course currency/exchange rates.

Instead, our system makes an allowance within our domestic tax rules once the foreign pension has been cashed-out. As this collapse of the foreign pension is almost certainly irreversible, you will want to be sure that the particular plan and transactions qualify under these rules; what gross and net-of-tax amounts are involved; and whether the actions can be completed in the available time frame.

Foreign withholding tax on cashing-out

The pension administrator will be required to withhold taxes, which is normally your final tax duty to the United States as the source jurisdiction. The general US withholding rate on a lump sum distribution from a retirement plan to a non-resident is 30%.

Comparatively, the Canada-US tax treaty allows for a reduced withholding rate of 15% on periodic payments from a retirement plan. In some cases, a pension plan administrator may take the position that the particular transaction qualifies for the reduced rate. This should be confirmed with the administrator, as well as with a US tax advisor whether you may nonetheless be responsible to the US for the higher rate, despite that a lesser amount may have been withheld at source.

Some pension administrators may (incorrectly) use the 20% withholding rate that applies on some domestic US transfers.

If you are under age 59.5, an additional 10% penalty tax applies to the withdrawal. Some administrators withhold this amount, but if not then you may need to file a US return to pay it yourself. In the past, the Canada Revenue Agency had not allowed a credit for that age-related penalty (more below on claiming credits), however it reversed its position a few years ago. It would be advisable to verify with the CRA on its current practice before proceeding.

Whether it’s 15%, 20%, 25%, 30% or 40%, the net amount to you will be in US dollars. Be sure to confirm with the plan administrator and a US tax advisor as to which of these apply and how they are handled. Apart from clarifying your US reporting obligations, this will help you determine how much cash you will need to come up with to meet your Canadian tax obligations, as we turn to that part of the process.

Canadian income tax inclusion

As a Canadian resident, you are taxable on your worldwide income. The gross amount received from the US pension – converted into Canadian dollars – must therefore be added to your other income in the year of de-registration and reported on your Canadian tax return.

Special RRSP contribution and deduction

A special RRSP deduction is available if the plan meets the Canadian definition of superannuation, pension benefit or foreign retirement arrangement. This is generally true for a 401(K), 403(B) or a regular IRA. (Different rules apply to a Roth IRA, which is similar to our tax-free savings account.)

Key to this special deduction is that the withdrawal must be a lump sum and specifically not be part of a series of periodic payments. Note that if the US plan administrator applied the reduced 15% withholding rate (that normally is used for periodic payments), the withdrawal should still qualify for the special deduction if it meets the lump sum definition under Canadian rules. Ask your Canadian tax advisor.

This special deduction does not require or affect existing RRSP contribution room. But unlike regular RRSP room, the special deduction can only be used in the same taxation year as the income inclusion or within the first 60 days of the following year. Any unused room cannot be carried forward.

Bear in mind that the plan administrator withheld tax before paying the net amount to you. To take advantage of the full deduction, you will have to top-up the contribution from another money source. On the other hand, if the amount is not topped-up then Canadian tax will still be due, based on the difference between the gross payout and the lesser amount of your contribution, in which case you will still need to come up cash to cover that tax.

Claiming the foreign tax credit

Once your preliminary Canadian tax for the year is calculated, the next step is to determine whether a foreign tax credit may be claimed for the amount withheld in the US. A key consideration is that if you have a large pension withdrawal but have relatively little income in the year, you may not be able to use the full credit, which cannot be carried forward. This opens up the possibility of double taxation on some part of the withdrawn pension: first in the year of withdrawal from the foreign pension, and then a second time on drawdown of the RRSP/RRIF.

Once more, it is critical to obtain advance tax advice on issues and estimates on both sides of the border.

Your retirement plans

Obviously, your decision will be affected by where you expect to retire, especially if you may end up back in the United States. And if you are a US citizen, there are additional considerations, even if you remain here in Canada. Be aware that the special contribution can only go to your RRSP, not to a RRIF, so this procedure must be completed no later than the end of the year you turn 71. As you can’t be certain how long it may take for that foreign plan administrator to process things, it would be prudent not to push it too close to that deadline.

CPP – Canada Pension Plan

Public pensions for retired & disabled workers

CPP is a social insurance plan providing income replacement to contributors and their families in the event of retirement, disability or death. It is government-run, but funded by mandatory employee and employer premiums. Premiums are invested by CPP Investments, a body independent of government politics or CPP administration. While CPP is the largest long-term disability plan in Canada, serving both contributors and dependents, the largest component of CPP payments is the retirement pension.

Guiding principles

Historically, CPP was designed to replace 1/4 of a worker’s average earnings, up to the year’s maximum pensionable earnings (YMPE), an annually-indexed dollar ceiling approximating the average national wage. In 2016, enhancements were introduced to eventually move the replacement target to 1/3 of qualifying earnings.

- The first phase of the enhancements began in 2019 with the premium rate moving from 4.95% in roughy equal annual increments through to its target 5.95% level in 2023.
- Phase two began in 2024, with a 4% premium being levied on income above the YMPE up to the year’s additional maximum pensionable earnings (YAMPE). The YAMPE is set at 7% above the YMPE in 2024, then rises to 14% above YMPE for 2025 and thereafter.

Premium payments

Employers withhold employee premiums in their payroll process, adding an equal amount as its own premium, and remitting the total to the Canada Revenue Agency. Employers claim a deduction for their premiums. Comparatively, employees claim a tax credit for premiums on income up to the YMPE, and a deduction for the additional premium up the YAMPE. Self-employed individuals pay both the employee and employer portions.

For 2024 the employee premium rate of 5.95% applies above the $3,500 exempt income level up to the YMPE of $68,500, for a maximum premium cost of $3,868. The 4% for the addition applies from the YMPE up to the YAMPE for 2024 of $73,200 (a range of $4,700), for a potential maximum additional premium of $188.

The connection between premiums paid and your potential retirement pension

Contributors earn credits for premiums paid during working years, from age 18 until the age when the pension begins. In concept, credits are spread across the number of working years to arrive at an average.
In practice, there are adjustments for presumed and actual absences from work, mainly:

General dropout

Takes out the equivalent of up to eight years, to acknowledge schooling, unemployment or other reasons

Child rearing provision

For actual time away from the workforce spent caring for children up to age seven

Disability exclusion

Periods during which a person is disabled, per CPP definitions

Over-65 dropout

May replace relatively low earnings before age 65 with higher earnings after age 65

Your actual retirement pension depends on the age when you begin

For 2024, the maximum annual pension is $16,375 at age 65. Age 65 is what CPP considers to be the standard age, but it’s not a legal requirement. A retirement pension may begin as early as age 60 or as late as age 70:

- The pension is reduced 0.6% for every month taken before age 65, which is a 36% reduction at age 60. For 2024, this works out to a maximum of $10,480.
- The pension is increased 0.7% for every month taken after age 65, which is a 42% increase at age 70. For 2024, this works out to a maximum of $23,252.

Complementary components of the CPP, outside of the core retirement pension

Disability pension

Unable to work at any job on a regular basis due to severe & prolonged disability

Survivor’s pension

Spouse or common-law partner of a deceased CPP contributor

Children’s benefit

Dependent of a disabled/deceased contributor, to age 18, or age 25 if full-time student

Post-retirement benefit

Augments pension of CPP retiree who continues to work and pay premiums

Post-retirement disability benefit

When a disability arises after starting retirement pension

Death benefit

A one-time $2,500 payment to the estate or dependent of a deceased CPP contributor

RRIF – Registered retirement income fund

What happens when you are ready to draw down your RRSP?

A registered retirement savings plan (RRSP) allows you to deposit and accumulate tax-sheltered savings. Once you are ready to use those funds for your retirement, there are three options available – individually or in combination – for you to ‘mature’ your RRSP:

- Cash-in your RRSP — The entire cashed-in amount will be taxable that year, which could push you into higher tax brackets, so this is not usually desirable except to close out a small RRSP.
- Purchase an annuity — Annuities pay a guaranteed fixed amount for life or a set number of years. Payments are often made monthly, with the total annual receipts taxable each year.
- Transfer to registered retirement income fund (RRIF) — You must take a minimum amount out of a RRIF each year (except the first/transfer year), though you can take more. Amounts taken are taxable each year.

When can you start a RRIF?

You can start a RRIF at any age, not just when you are retired from working. Still, since the required withdrawals are taxable, you generally wouldn’t do so until you need the funds for living expenses – but you can’t wait forever. By the end of the year you turn 71, your RRSP must be matured by one or more of cashing-out, annuitizing or transferring to a RRIF.

Investing with continued tax sheltering

Unlike an RRSP, you cannot contribute anything more into a RRIF. To be clear though, you aren’t required to mature all your RRSPs at the same time. You may decide to keep some money in RRSP form, to be used to set up another RRIF (or annuity, or cash-out) at some time in the future, bearing in mind the age 71 outer limit.

Apart from what you take out of a RRIF, whatever remains within it will continue to grow tax-sheltered. As to investments, you are able to choose among essentially the same options available to you in your RRSP.

How are RRIF minimum annual withdrawals calculated?

A minimum must come out of a RRIF each year, based on your age as the ‘annuitant’ at the beginning of the year. Minimum withdrawal rates are on Table 1 following. The shown rate at each age is multiplied by the RRIF value at the beginning of the year to obtain the required minimum withdrawal. Once again, there is no minimum the year the RRIF is set up.

If you wish, you may use the age of your spouse/common law partner (CLP) as annuitant, which would reduce the minimum if he/she is younger. If you do this, the payments are still made to you and taxed to you, even though the rate is based your spouse/CLP’s age. When you file your annual tax return, you may be able to elect for some of that RRIF income to be split with and taxed to your spouse/CLP, as discussed further below.

Withholding tax

The RRIF administrator must withhold tax on withdrawals to remit to the Canada Revenue Agency (CRA), but only on any amounts over the minimum. See Table 2 below. Understand though that all RRIF withdrawals are taxable.

When you calculate your actual tax due on your income tax return, you receive a credit for the withheld taxes. This may lead to a tax refund if more was withheld than necessary, but if the withheld amount is insufficient then you will owe the difference.

Quarterly instalments

When you file your return, if the difference between tax payable and withheld tax is over $3,000 ($1,800 in Quebec) for the current year and either of the two preceding years, you may have to pay future taxes in quarterly instalments. This can happen for example if the RRIF is large, and the annuitant is taking only minimums without any withholding. CRA will send you an Instalment Notice if this is the case, outlining the payment due dates, amounts required and process for making payments.

Annual splitting, and transfers at death

If you are over 65, you are entitled to split up to 50% of RRIF income with a spouse/CLP, which could reduce your household tax bill if your spouse/CLP is at a lower tax bracket. You make the election on your annual tax return. Each year, you may choose to split whatever amount suits your needs, again up to the 50% maximum.

On death, the full RRIF amount is normally brought into a deceased person’s terminal year income (January 1^st to date of death). However, a tax-deferred rollover is allowed to a spouse/CLP who is named as RRIF beneficiary or who is an estate beneficiary with a financial entitlement at least as much as the value of the RRIF. It is also possible to roll to a minor child or a financially dependent disabled adult child in qualified circumstances.