Income splitting is a strategy that aims to level out income earned by married or common-law spouses with the goal of reducing the household’s tax bill. An added benefit is that income splitting can help protect income-tested benefits such as Old Age Security, which is reduced at a higher income.

Canada has a graduated tax system meaning as Canadians earn more, they pay a higher rate of tax on the higher earning. For example, in 2024, federal tax on taxable income $55,867 or less is 15% – but every dollar earned above that up to $111,733 is taxed at 20.5%.

The effect of a graduated tax system is that two partners who each earn $100,000 will pay less total tax than two partners who earn $150,000 and $50,000, respectively. That’s where income splitting can be beneficial.

What income qualifies for income splitting?

Only certain types of income qualify for income splitting, and the biggest opportunity is in retirement when you can split up to half of eligible pension income with your married or common-law spouse.

Pension income eligible for income splitting includes:

• Life annuity payments from a Registered Pension Plan (RPP) at any age
• Variable pension benefits from an RPP starting at age 65
• Withdrawals from a Registered Retirement Income Fund (RRIF) or Life Income Fund (LIF) starting at age 65
• Income from an annuity, including an annuity purchased with a Registered Retirement Savings Plan (RRSP) or Deferred Profit-Sharing Plan (DPSP), starting at age 65

In addition, a couple can share Canada Pension Plan (CPP)/Quebec Pension Plan (QPP) income, whether one or both spouses contributed. The portion that’s sharable depends on how many months spouses lived together while contributing to the CPP/QPP. Couples cannot share the CPP post-retirement benefit, which is earned by those who both contribute to, and receive benefits from, CPP/QPP between the ages of 60 and 69 inclusive.

You cannot split Old Age Security, U.S. Individual Retirement Account (IRA) income or any other foreign pension.

Can you split income while working?

A spousal (or common-law partner) RRSP allows working couples to split some income right away and lay the groundwork for more equal income in retirement. It’s an effective strategy when a couple have different incomes now and expect to have different incomes in retirement.

Here’s how it works: The higher-income spouse contributes to the spousal RRSP on behalf of the lower-income spouse. In return, the higher-income spouse uses their RRSP contribution room and deducts the contribution at their marginal tax rate, which  would likely be higher if their income was higher. Meanwhile, the lower-income spouse builds up retirement savings and then, in retirement, withdrawals from the spousal RRSP will be taxed in that spouse’s hands.

Contributions to a spousal RRSP must generally remain in the plan for the rest of that calendar year plus two more years for withdrawals to be taxable to the spouse rather than the contributor.

Income splitting requires regular reviews

Income splitting is just one way to ensure your household gets the most out of income earned. Like all tax planning, it’s not a “set it and forget it” strategy. Your advisor can work with you to develop, and review annually, a customized approach that considers many aspects of your personal and family situation to save taxes and enhance your financial well-being.

This article was written by Edward Jones for use by your local Edward Jones Financial Advisor, Nicolle Lalonde.