Unlocking locked-in funds

While pension assets represent an important source of retirement income, locking in restrictions can hamper retirement income-planning flexibility. By making full use of maximum withdrawal limits, thousands of dollars in pension savings can be unlocked while remaining tax-sheltered.

Individuals with pension savings often transfer these assets to a locked-in plan, such as a life income fund (LIF), to provide retirement income. While a LIF provides a certain degree of flexibility, the annual minimum and maximum withdrawal limits can restrict retirement income planning. If you’re looking for additional retirement income flexibility, there’s a straightforward strategy that can unlock some of these locked-in funds.

If you need less than the maximum LIF withdrawal amount each year, the difference between the maximum amount and the amount actually withdrawn from the plan can be transferred directly to a registered retirement savings plan (RRSP), if you’re 71 or younger, or to a registered retirement income fund (RRIF).

The advantage? You can unlock a portion of your locked-in savings without losing the benefit of tax-sheltered investment growth.¹ The unlocked funds can be used when the need arises, without maximum withdrawal restrictions.

Pension legislation imposes a maximum amount that can be withdrawn from LIFs because these plans hold pension assets that remain under pension legislation. If the maximum amount isn’t withdrawn from a locked-in plan, it continues to be locked in, even though the individual had an opportunity to withdraw it.²

If LIF payments are set to the maximum amount, any unused amounts between the minimum and maximum amounts can be transferred to a regular RRSP, for those 71 or younger, or to a RRIF each year. This unlocks assets that would otherwise remain locked in while maintaining the tax-sheltered investment growth.

While the person may not need immediate access to these funds, they gain future flexibility in their retirement income planning by no longer being restricted by maximum payment limits on the transferred funds.

Tip

If funds are currently in a locked-in retirement account (LIRA), individuals can transfer to a locked-in plan such as a LIF as soon as pension legislation allows. This is typically at age 55, but varies by province — Alberta and British Columbia allows age 50; Manitoba, Quebec, New Brunswick, and funds governed by federal legislation have no age requirements.³ Following this course of action means they will need to make their annual withdrawals earlier than they might have planned, but they benefit by unlocking earlier as well.

Note: Some provinces don’t allow a transfer back to a LIRA once the LIF option is chosen.⁴

You may still want to consider an unlocking strategy as early as possible. The minimum payment you must take as income can be used to make your annual RRSP or tax-free savings account (TFSA) contribution, or to make a tax-deductible interest payment on money borrowed for investment purposes.

To provide more flexibility in meeting financial needs during retirement, several pension jurisdictions now provide individuals with the opportunity to unlock some or all of their locked-in funds.

Some pension jurisdictions have introduced a limited one-time opportunity to transfer a portion of LIF funds to a regular RRSP, for those age 71 or younger, or to a RRIF. This means people may be able to unlock up to 50 per cent of their locked-in savings without losing the benefit of tax-sheltered investment growth. The amount that’s left remains locked in and is subject to the annual minimum and maximum withdrawal limits.

Other provinces offer a prescribed RRIF (PRIF) that can be used for funds transferred from a pension plan or from a LIF. With a PRIF, the funds remain subject to the applicable pension legislation but there’s no limit on the maximum annual payments. The investments in a PRIF continue to benefit from tax-sheltered investment growth.

Richard is a 55-year-old investor who transfers a $250,000 LIRA to a LIF.⁵

In the first year he can unlock the $16,275 (the maximum payment) allowed since there’s no minimum.

In the second year, at age 56, the:

• LIF maximum is 6.57%
• LIF minimum is 2.94%
• difference is 3.63% — the amount that can be unlocked is $8,481 (3.63% of $250,000 – $16,275).

In this example, if the funds earn an annual return of five per cent, $92,104 could be transferred to an RRSP or RRIF over a 10-year period. And since Richard also unlocks the future investment earnings on any amount transferred, the total amount unlocked over the 10-year period becomes $122,902. If a younger spouse’s age was used to calculate the RRIF minimum, more funds would become unlocked each year.

The unlocked funds can provide significant opportunities — financial flexibility to meet changing financial needs during retirement, or for an emergency should one arise.

* The example described above is for illustration purposes only. Rates of return are not guaranteed, values change frequently, and past performance may not be repeated.

An unlocking strategy for pension savings is worth considering for those who:

• rely or plan to rely primarily on pension funds as their main source of retirement income
• are looking for more flexibility in terms of access to their retirement savings
• anticipate needing less than the maximum amount from their LIF over the next several years.

Tip

Investors may consider unlocking the maximum provided under the applicable pension legislation combined with an annual unlocking strategy. While they may need to make annual withdrawals earlier, they’ll benefit from greater flexibility to access locked-in funds in the future.

The unlocking strategy is an easy one to carry out each year. You simply need to:

• select the minimum withdrawal amount (or the amount needed as income) from the LIF
• complete form T2030 or form T2033 once a year to transfer any leftover maximum to an RRSP (for those under age 71) or to a RRIF, respectively.

This is a direct transfer, so no RRSP contribution room is required and there’s no withholding tax.

Note: The excess amount transferred to an RRSP is reported on a T4RIF and claimed as a deduction on your tax return. This may impact certain income-tested benefits. The excess amount transferred to a RRIF isn’t reported on a T4RIF and not claimed as a deduction on your tax return.

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