When the debt collector calls There are ways to protect your hard-earned RRSP, JEFF BUCKSTEIN writes
Think the money in your registered retirement savings plan is safe from potential creditors?
Think again. In fact, RRSP products sold by most financial institutions can be subject to seizure by creditors in the event of a bankruptcy or a judgment arising from a lawsuit. And financial planning experts say more Canadians should consider ways to safeguard at least a portion of their retirement cache.
“Creditor-proofing is often a neglected step when it comes to financial planning,” says Scott Gerlitz, an investment representative with Edward Jones in Rocky Mountain House, Alta.
Who should think seriously about creditor-proofing their RRSPs?
Robert Snowdon, an Ottawa-based chartered accountant, says it should be an important consideration for all self-employed business owners, including those involved in partnerships; as well as professionals such as lawyers, accountants, doctors and dentists who have their own practices.
One reason that self-employed business operators, including professionals, should aim for 100-per-cent protection of their RRSP portfolio, Mr. Snowdon says, is that they are more susceptible to finding themselves “on the hook for professional liability” than would employees of a company.
Mr. Gerlitz points out that employees who participate in their company’s registered pension plan already have a portion of their retirement money protected because the proceeds from such pension plans are guarded against creditors.
But even employees of companies should consider creditor-proofing their RRSPs, financial experts emphasize, because unexpected events — such as personal insolvency or an adverse legal judgment — can and do happen.
“Everybody plans for their retirement, but nobody ever anticipates that they’re going to have to file for bankruptcy or a creditor obtains a judgment against them in court,” so they don’t take precautions within their RRSPs,” notes Russ Leroux, senior vice-president with Grant Thornton Ltd. in Thunder Bay, Ont.
There are several ways to protect RRSPs from potential creditors, Mr. Gerlitz says. For example, he cites one way for a married business owner to protect personal assets such as an RRSP is to ensure that a portion of the family’s RRSPs are registered in the name of the spouse, “so long as the spouse has no implications with the company,” such as having provided guarantees or possessing signing authority.
The creditor-proofing strategy most often touted by financial experts involves registering an RRSP with an insurance company in a segregated fund. This is a type of annuity that has a guaranteed return and is similar to a mutual fund. This product, registered in the name of a beneficiary such as a spouse or child, is “absolutely protected in bankruptcy,” or judgment arising from legal action, against creditors across Canada, Mr. Leroux says.
A segregated RRSP, which can only be purchased from insurance companies, operates much like other RRSPs. There are underlying investments, such as various mutual funds, attached to that segregated fund and when the RRSP is terminated (by age 69), investors can elect to receive an annuity from the fund, or roll it over into a registered retirement income fund. The investor can also negotiate various death and maturity benefits (for example, as a percentage of face value) with the insurance company. (This combination of growth and security features often leads to higher management expense fees compared to non-segregated RRSPs.)
Furthermore, when the investor dies, the beneficiary gets the proceeds within that segregated fund on a tax-free, creditor-protected basis. And because it is registered in the beneficiary’s name, he or she does not have to pay death-related taxes such as probate fees.
Industry Canada, on its Strategis website, notes that when individuals are forced into bankruptcy, creditors are normally entitled to recoup their losses. But there is also a general recognition that some of the bankrupt’s property, such as household belongings, clothing and work tools, should be exempt from seizure. By the same token, certain protections are also afforded to RRSPs because the plan program is designed to provide investors “with a reasonable living standard after their work years are done,” the website notes.
The website explains that some jurisdictions give RRSP investors more creditor protection than others. Saskatchewan and Prince Edward Island, for example, offer full protection for all RRSP holdings (so long as they are properly registered and have listed beneficiaries) while other parts of the country do not. This discrepancy was a key factor in the introduction, in June 2005, of federal legislation to provide greater minimum RRSP protection across the country.
Under the legislation, which was part of an omnibus bill known as C-55, all RRSPs and RRIFs that are properly locked in and have a registered beneficiary would be exempt from seizure by creditors — except for any contributions made in the 12 months immediately before a bankruptcy. (This is meant to ensure that a person heading into bankruptcy won’t shift money into an RRSP shelter to deliberately evade creditors.)
Industry Canada notes that a cap would be imposed on the total exemption to “allow for a reasonable rate of return on investment while ensuing that creditors are not denied repayment when the bankrupt holds an unduly large RRSP.”
The legislation is also meant to ensure that an RRSP investor has “the financial means to care for him or herself without ending up as a burden on society,” the department says.
Bill C-55 received royal assent in November, 2005, just before Parliament was dissolved for the 2006 federal election, but has not yet been proclaimed into law.