Canadian seniors who collect Old Age Security (OAS) pensions have to keep an eye on their net world income. As soon as earnings top a minimum threshold, the Canada Revenue Agency (CRA) implements a 15% OAS pensions recovery tax that reduces the OAS payments in the following year. One way to generate additional investment income without putting OAS at risk is to use a Tax-Free Savings Account (TFSA) to hold the investments.
Source: Getty Images
OAS clawback details
High-income retirees are at risk of getting their OAS cut, or even eliminated if they earn too much money. The CRA uses net world income for the calculation. This means that all taxable income from company pensions, the Canada Pension Plan (CPP), OAS, Registered Retirement Savings Plan (RRSP) withdrawals, and Registered Retirement Income Fund (RRIF) payments count toward the total. Income from taxable investment accounts, rental properties, or a part-time job also goes into the calculation.
In the 2023 tax year, the OAS clawback threshold is $86,912. Every dollar above that amount triggers a 15-cent reduction in the OAS payment for the July 2024 to June 2025 period.
An income of $87,000 sounds like a lot for a retiree, but it is easy to hit that amount if a person has a generous company pension and also receives full CPP and OAS. Once you take income tax out of the total and factor in the sharp rise in living costs, the budget can still get tight at the end of the month for some people who earn this much money in retirement.
One way to reduce or avoid the OAS clawback is to maximize investments inside a TFSA before holding income-generating investments in a taxable account.
TFSA limit
The TFSA limit is $6,500 in 2023. That brings the maximum cumulative TFSA contribution room to $88,000 per person. In 2024, the TFSA limit will be at least another $6,500 and might get bumped to $7,000.
TFSA contribution room can be carried forward, and withdrawals open equivalent new space in the following calendar year.
All interest, dividends, and capital gains earned inside the TFSA are tax-free and are not counted toward the net world income total. For someone who is at or near the OAS clawback threshold, the impact of shifting income investments from taxable accounts to a TFSA can be significant.
Best investments for passive income?
In the current market conditions, Guaranteed Investment Certificates (GICs) from many financial institutions offer rates above 5.5%, and some great dividend-growth stocks offer yields near 8% today. For example, TC Energy (TSX:TRP) has increased its dividend annually for more than two decades and currently has a dividend yield of 7.9%.
The bottom line on the OAS clawback
Retirees can quite easily get an average yield of 6% right now on a diversified portfolio of GICs and top Canadian dividend stocks. At this rate, a TFSA of $88,000 would generate $5,280 per year in tax-free income that won’t cause a clawback in OAS pension payments.
