Naming Your Beneficiary

Question. With my RRSP, I don’t really know who to indicate as the beneficiary of the plan. Is it important to list one?

Answer. Very!  It’s a great idea to list a beneficiary on your RRSPs, and not just for RRSPs, but for registered plans in general, as well as life insurance policies, too.

In Canada excluding Quebec, life insurance policies and registered plans allow for a named beneficiary. As a reminder, here are some of the most common registered plans with beneficiary designations:

  • RRSP – Registered Retirement Savings Plan
  • RRIF – Registered Retirement Income Fund
  • TFSA – Tax-Free Savings Account (called successor annuitant)
  • LIRA – Locked-In Retirement Account
  • LRIF – Locked Retirement Income Fund

Getting this right is extremely important for a number of reasons, and conversely, getting it wrong can be very costly.

Key Benefits of a Named Beneficiary

In short, the key consideration regarding a beneficiary designation is, “What happens to the money in the account when the plan holder dies?” When there is a named beneficiary on a life insurance policy or registered plan, the proceeds will go directly to that named beneficiary and will not be included in the deceased’s estate. This presents 3 key advantages:

  • Efficiency
    The process of probating and administering a deceased individual’s estate can often be quite a lengthy process. With a named beneficiary, the assets pass outside the estate much more efficiently. This helps ensure your intended heirs, family, and loved ones receive those assets without unnecessary delay.  I’ve seen life insurance payout or RRSPs beneficiaries get the money in a couple of weeks versus much longer time periods when waiting for probate.
  • Creditor Protection and Privacy
    In general, estate information is available to the public. This means that assets passing through your estate are generally visible to others. Further, assets in your estate are generally exposed to potential creditors. Again, by naming a beneficiary on registered plans and life insurance policies, those assets are kept private and also protected against claims from potential creditors.
  • Minimize Probate Fees
    Probate is a legal process that includes the validation of a deceased individual’s will, and the formal appointment of an executor to the deceased’s estate. Although the probate rules and fees vary from one province to the next, the cost associated with the probate process is generally a function of the monetary value of the deceased’s estate. To that extent, using a named beneficiary to keep assets outside your estate helps save money and preserves the value of your estate.

To illustrate the impact of probate fees on an estate, let’s consider an example.  The BC probate fee schedule is:

  • $200 dollar filing fee (unless the value of the estate is below $25,000);
  • 0.6% on the value of an estate between $25,000 and $50,000; and
  • 1.4% on the value of an estate over $50,000.

Now, if a resident of BC dies with a $1 million life insurance policy and has it go directly to their beneficiaries it would save $13,650 of probate fees. And go quicker and privately.

Let’s take a closer look at the implications of named beneficiaries, or lack thereof, for both registered plans and life insurance policies.

Does a named Beneficiary Save Taxes?

What many people do not realize, is that upon death, the proceeds of registered plans pass to a spouse tax-free, and then upon their demise, the proceeds (other than a TFSA) are subject to regular income inclusion, and therefore full taxation. Naming a beneficiary doesn’t allow you to escape taxation, but it does allow you to escape probate, and ensure those assets pass directly to your designated beneficiary rather than through your estate.

Although it is the responsibility of the deceased’s executor (or legal representative) to pay the taxes owing upon death, the beneficiary of the RRSP or RRIF is also jointly liable. That is, if the executor fails to pay the taxes owing, the CRA can take action against the beneficiary named on the RRSP or RRIF.

Life Insurance Policies

In Canada, life insurance policy proceeds, known as the death benefit, are paid out 100% tax-free. This is always the case, whether or not there is a named beneficiary on the plan. Further, this includes all types of life insurance:

  • Term policies, such as Term 10 or Term 20;
  • Permanent policies, such as Universal Life, Whole Life, and Term-to-100;
  • Group policies through employer benefit plans.

However, while benefits are always paid out tax-free, in the absence of a named beneficiary, the life insurance proceeds are typically paid to the deceased’s estate. As described above, when this happens, the proceeds may be subject to probate fees and may be exposed to potential creditor claims.  And then can take time to payout.  When it would be a good idea to have life insurance policies paid out to an estate would be if you have young children.  So you can set up a plan in your will for when the kids can get access to the money i.e. 25% at age 19, 25% at age 23, and the rest at 30, when they are a bit more mature.

Bottom Line

Review your registered plans and insurance policies, and make sure you have made the appropriate beneficiary designations wherever possible. I have seen instances where an ex-spouse has been left on as the beneficiary which is usually not the intention.  Marriage, divorce, separation, and having children are some of the most common triggers to review your beneficiary designations, a regular review is always a good idea, to ensure your beneficiary designations are properly aligned with your final wishes.

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