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March 2, 2024

Tax Perspectives

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Please note that these publications may not be up-to-date as taxation matters are subject to frequent changes.

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Summer 2004
Volume 4, Number 1

The information in Tax Perspectives is prepared for general interest only. Every effort has been made to ensure that the contents are accurate. However, professional advice should always be obtained before acting on the information herein.

Retirement Compensation Arrangements

By Warren Smith, CA
Cadesky and Associates LLP (Toronto)

A retirement compensation arrangement ("RCA") is a retirement plan structured as a trust arrangement between an employer and an employee. Contributions are made by the employer to the RCA trust, under which the employee is the beneficiary. The trust is required to make payments to the employee (or an employee's beneficiary) on, after or in contemplation of the employee's retirement, on death, or on a significant change in duties. The tax planning is based on the idea that the employee will be taxed at a lower tax rate at that time.

The RCA is subject to a 50% refundable tax on contributions made and any income earned by the RCA. While the RCA is subject to the 50% tax on contributions and income, the employee is not taxable until funds are distributed from the RCA. When distributions are made from the RCA to the employee, the 50% refundable tax is recovered at a rate of $1 for every $2 distributed. This means that all taxes will be refunded if everything in the RCA is distributed.

Employer contributions to an RCA do not affect the employee's contribution limit to an RRSP and the amount of the contribution is limited only by what is reasonable. The investment of funds in an RCA is not limited to prescribed investments, as is the case for RRSP's, and therefore RCA funds can be invested in active businesses, foreign stocks or life insurance, as well as traditional RRSP type investments.

The beneficiary of an RCA is not taxed until funds are withdrawn from the RCA. Accordingly, whether an RCA is right for you depends on when you expect to withdraw the funds and your expected tax rate at that time.

If you expect that your income at retirement will be low because you do not have a company pension or significant other assets, an RCA will allow you to take the money out of the plan at retirement and pay tax at lower rates.

An RCA is beneficial to someone who may become a non-resident of Canada in the future. If the funds from an RCA are paid to a non-resident, the RCA will withhold and remit tax of 25% (lower if reduced by international tax treaty).

An RCA is particularly beneficial to U.S. citizens living and working in Canada. It is an excellent tool to equalize the Canadian tax rate to that of the U.S. over, say, a five-year work term in Canada.