You should read this guide if you’re an incorporated Canadian physician and you:
- are approaching retirement and have substantial assets in your corporate account; and
- need to transition from practice income to income generated from your investments.
TABLE OF CONTENTS
Retirement planning is more complex if you’re incorporated
As a physician, you’ve invested immeasurable time and hard work in your career. But the rewarding retirement you’re dreaming about won’t just fall into your lap — it takes planning to make it happen.
During your medical career, you’ve had a steady stream of income from your practice. In retirement, you’ll have to rely mostly on income generated from your investments — which you often have less control over. With proper planning, though, you can ensure you’ll have enough income to last throughout your whole retirement and to leave the legacy you want to.
What does retirement planning involve?
Because retirement means moving from one stage of life to another, it can be a difficult transition for anyone. For incorporated physicians, it has an extra layer of complexity.
1. Your retirement goals
- Are you on track financially for retirement?
- What activities are you looking forward to in retirement?
- Will you be able to afford those activities?
2. Your compensation strategy
- Has your compensation plan evolved since you first incorporated your practice?
3. Your investments
- Have you made changes to your investment vehicles — registered retirement savings plans (RRSPs), tax-free savings accounts (TFSAs), life insurance, etc. — or your portfolio composition?
- Are your different investment vehicles all part of an overall plan?
4. Estate planning
- Do your retirement plans fit with what you hope to leave to your beneficiaries?
- Does your estate plan minimize the tax liability upon your death?
5. Major life changes
- Are you planning to move when you retire?
- Are there any major life changes, like a large inheritance or marriage breakdown, that might call for the restructuring of your corporation?
Create the retirement you’ve always hoped for
Proper planning starts with self-exploration. What retirement goals are most important to you?
A person’s values often form the basis for their retirement goals — take a moment to look at some of the possibilities below and to think about the core values that are most important to you.
How will identifying your core values help you to form goals for your retirement? If you have always placed a high value on your family and friends, that may equate to structuring your retirement to ensure you can support and spend time with them on a more regular basis. Or if you particularly value your independence, that may translate into a goal of renovating your home to ensure that you won’t be reliant on support from your family or others, or subject to excess healthcare costs, as you get older.
Retirement income sources: What to draw on first?
You may be wondering: how exactly does exploring my values and goals translate into making decisions on income sources for my retirement? It’s imperative because it helps you and your Advisor build a financial plan that fits who you are and helps you to see what your primary objective in retirement will be.
Your primary objective might be to:
- manage risks
- minimize current tax
- grow net worth
- preserve an estate
Once you understand your primary objective, MD can help you determine which retirement income source you should draw on first and can help you structure the income you’ll need to achieve your goals and primary objective.
Building a plan to fit your values, goals and objective
When you begin to draw income in retirement, there are different tax consequences for each source of cash flow. Clearly, the less tax you have to pay, the easier it will be to fulfill your retirement needs and goals.
Common sources of cash flow for incorporated physicians are:
- personal portfolio of investments and savings
- corporate investments
- Canada Pension Plan (CPP) or Québec Pension Plan (QPP)
- RRSP or registered retirement income fund (RRIF)
Here are general guidelines on how best to order income sources based on your primary objective. Individual factors will affect your final decision, however.
- Personal portfolio
If your main concern is income security, CPP/QPP would be the last to draw on since government money is guaranteed and is the most immune to poor returns and to longevity risk (i.e., the risk of outliving your money). Conversely, drawing from the corporation first makes sense since it likely holds your most aggressive (and least stable) investments.
Minimize current tax
- Personal portfolio
If your main priority is to minimize the tax you’re paying in early retirement, the TFSA would come first, since withdrawals from it are tax-free. The CPP/QPP and RRSP/RRIF are fully taxable, so you would leave them as long as possible. However, at a certain point — December 31 of the year in which you turn 71 — you have to convert your RRSP to a RRIF and start withdrawing from it the following year.
Grow net worth
- Personal portfolio
In this case, you want to withdraw as little of your money as possible and minimize the tax you pay. Since CPP/QPP payments come from a pool of government money combined with your own contributions, this source would get used first. The TFSA is the only option that has no future tax implications, so it would be drawn on last.
Preserve an estate
In an estate, the RRSP/RRIF is usually fully taxable. If you draw from it early in your retirement, you reduce the tax your beneficiaries will be left to pay. The TFSA should be used last because it’s not subject to tax and will preserve all of its value when liquidated.
Shifting to dividends in retirement
While you were practising, your professional corporation probably paid you a salary, dividends or both. In retirement, physicians typically aren’t performing work that warrants a salary, so chances are you will need to change your compensation to dividends only.
There are advantages and disadvantages to dividends
Dividends are a tax-efficient way to withdraw investment income or retained earnings from previous years. Here are some of the main things to know about shifting from salary to dividends in retirement:
- Dividends are taxed more favourably than salary.
- Dividends do not create RRSP contribution room the way that salary does.
- Paying dividends from the corporation allows you to recover some of the tax you’ll pay on passive investment income.
Some dividends, called capital dividends, can be paid out tax-free
You may want to shift your corporate investments toward investments that generate income from eligible dividends. If you are 65 or older, dividends will allow you to income split with your spouse without having to meet the “reasonableness” test that applies to salary.
Sometimes what’s best for the current year may not be the best strategy five or 10 years later, however, so it’s important to have a holistic view of your overall financial plan. Your MD Advisor* can discuss your compensation strategy with you and integrate advice from your tax advisor and accountant into your investment, retirement and estate plans.
Income security and your investment portfolio
When you retire from practice, knowing you have a steady cash flow will become even more important. Sometimes this new focus on income security can require significant changes to your investment portfolio.
During your working years, you have been building your assets, so you have invested in equities (growth investments). As you approach retirement, you need to prepare to draw on those assets. That likely means changing to more tax-efficient and conservative investments to help preserve your capital.
Here are some things you can anticipate during the various stages of retirement.
Late 50s and early 60s: You might face a transition in your investment portfolio and methods of compensation.
Early 70s: You’ll be required to convert your RRSP to a RRIF, if you haven’t already done so.
Late 70s: You may encounter risks related to declining health and increasing care costs.
Retirement and estate planning go hand in hand
Having a corporation in your estate can make it more complicated to create an efficient legacy. Our guide to estate planning offers more details on estate administration, but here we’ll look at some aspects that are closely related to retirement.
It’s wise to start thinking about some elements of your estate plan even before you retire. Let’s take corporate-owned permanent life insurance as an example. This type of insurance — which has an insurance component and an investment component — can help you address both liquidity and tax considerations in your estate, but it’s best to start a policy while you are younger and likely healthier.
Corporate-owned permanent life insurance has retirement-related benefits. It can help shield some of your investment income and be a relatively secure asset diversification tool. While corporate-owned life insurance can also act as a backup plan for retirement income, it usually functions best in your estate plan. When it’s part of your estate, it’s possible for both the insurance and the investment component to be distributed tax-free.
Putting your legacy in order
The goal is to get your retirement and estate plans working together to minimize the overall taxes paid by you and your beneficiaries. After all, minimizing your taxes in retirement isn’t ideal if it leads to substantially higher taxes later on for your estate.
Also, it’s important to give some thought to your biggest legacy priorities, such as an inheritance to your children and grandchildren, or donating to certain charities. Your wishes will affect your retirement plan and the vehicles you invest in (permanent life insurance, trusts for your personal non-registered assets, donor advised funds, etc.).
Rethinking your corporation in retirement
Generally, once you no longer maintain your licence to practise medicine, provincial colleges of medicine won’t allow you to keep your corporation as a medical professional corporation (MPC). So you have some decisions to make.
Wind up: If you don’t have a lot of assets in your corporation, you can formally wind it up. This involves selling the corporation’s assets, paying off creditors, distributing any remaining assets to the shareholders and dissolving the corporation, among other steps.
Convert: If you have built up investments in your corporation and there is benefit in keeping it, you can simply convert your MPC to a holding company with a new name. The new name will let people know that your corporation is no longer an MPC. When you change it to a non-practising corporation, you’ll no longer report to your college of medicine regarding your corporation or be responsible for paying college MPC fees. In provinces with shareholder restrictions imposed by the college, once you’ve converted your MPC to a holding corporation, those restrictions no longer apply.
Note that if you move to another province or territory in retirement, you’ll have to think about any tax differences and adjust your income strategies accordingly. Leaving the country is another matter, and generally creates significant tax consequences for your corporation.
Retirement, your way
Most people look forward to retirement as an opportunity to travel, pursue their hobbies, try out new activities and devote more time to family, friends and community. Having the right retirement plan in place will go a long way in helping you enjoy the retirement you’ve always hoped for. Think of it as retiring with purpose.
MD Financial Management has tools to model many different retirement scenarios for you. We can collaborate with your tax advisor to maximize your retirement income while managing the risks of inflation and longevity to strengthen your financial security.
Contact your MD Advisor to learn more about retiring as an incorporated physician.
* MD Advisor refers to an MD Management Limited Financial Consultant or Investment Advisor (in Quebec), or an MD Private Investment Counsel Portfolio Manager.
Insurance products are distributed by MD Insurance Agency Limited. All MD employees dealing with clients regarding insurance products hold life licences.
Estate and trust services are offered through MD Private Trust Company.
The above information should not be construed as offering specific financial, investment, foreign or domestic taxation, legal, accounting or similar professional advice, nor is it intended to replace the advice of independent tax, accounting or legal professionals.