Ask MoneySense
I retired last year at age 66. I’m single with no dependents. I discovered my pension was only withholding 5% tax at source, so I asked the payer to withhold an extra 15.05% to reach a total of 20.05%, which matches the lowest combined federal and Ontario marginal rate.
After filing my tax return and claiming the basic personal amount, pension credit and age amount, I received a sizeable refund of $5,000. I could have used that money throughout the year. Should I ask for less additional tax withheld from my pension going forward?
—LT
Withholding tax in retirement
With a regular salaried job, payroll withholding is usually calibrated so you neither owe a large amount nor get a large refund when you file your tax return. Retirement is different: income often comes from multiple sources and not all of them withhold tax at source.
For example, Canada Pension Plan (CPP) and Old Age Security (OAS) typically do not have tax withheld unless you request it. One important exception for OAS is the recovery (clawback) that begins above a certain income threshold: for 2023 this threshold starts at $86,912, and income above that level can trigger an OAS recovery tax and withholding during the July 2024 to June 2025 payment period.
Minimum withdrawals from a registered retirement income fund (RRIF) are not subject to withholding tax. Non-registered investment income generally doesn’t have tax withheld either, although certain foreign source income — for instance U.S. dividends — is usually subject to a 15% withholding tax (claimable as a foreign tax credit on your return).
Why many retirees end up owing tax
Because so much retirement income can arrive without withholding, many retirees find they owe tax when they file. Repeated balances owing can even lead to the Canada Revenue Agency (or Revenu Québec for Quebec residents) requesting quarterly instalment payments.
LT, your approach of instructing your pension payer to withhold 20.05% makes sense at first glance since that is the lowest marginal rate in Ontario. But withholding tables are based on the assumption that the pension is your only income and that you have no personal tax credits applied at source.
Everyone is entitled to a federal basic personal amount — $15,000 for 2023 — plus a provincial basic personal amount that varies by province. On top of that you may qualify for additional credits such as the pension income amount and the age amount. These credits reduce taxable income and therefore reduce the amount of tax you ultimately owe. If your deductions and credits lower your tax bill significantly, the payer’s withholding can end up higher than necessary, which is why you received a large refund.
How to correct withholding
You have options. If you prefer avoiding a balance owing at tax time, you can request extra tax be withheld from your pension so you don’t underpay during the year. Conversely, if your withholding is higher than needed, you can provide the pension payer with completed federal and provincial TD1 forms to reduce source deductions based on your standard credits.
If you have unusual credits or deductions — for example spousal support payments, substantial medical expenses or significant charitable donations — you can apply to the CRA using form T1213 (Request to Reduce Tax Deductions at Source). If approved, the CRA will authorize your payer to reduce withholding to reflect those deductions.
Should you request more or less withholding?
Most people prefer a refund rather than owing money. That said, getting a refund means you effectively provided the government with an interest-free loan for the year. The ideal situation is to be nearly even: the CRA doesn’t require payment if your balance owing is $2 or less.
Given that income, deductions and credits can change from year to year, it’s reasonable to expect some variability in your final tax position. You can fine-tune withholding by adjusting the extra tax your pension payer withholds or by submitting TD1s or a T1213 if you have special deductions. If you prefer steady cash flow during the year, reduce the additional withholding; if you want to avoid a potential balance owing, keep some extra withheld.
In short, LT, your $5,000 refund indicates you may have had too much withheld given your available credits. If you need that money during the year, consider lowering the additional withholding and monitoring your tax situation annually to adjust as needed.
Read more from Jason Heath:
- How to claim a child’s income below the basic personal amount
- 4 strategies for income splitting with a lower-income spouse
- DC plans once you retire: What do you do with them?
- Tax planning for Canadians who invest in the U.S.