How an annuity compares with keeping savings in a RRIF

At some point, registered savings have to become an income. For most Canadians that moment comes by the end of the year they turn 71, when an RRSP must be turned into a RRIF, used to buy an annuity, or withdrawn. The RRIF is the common choice. The annuity is the less familiar one, and the two work so differently that comparing them is mostly a question of which risks you want to keep.

This file describes the mechanics of each. It does not compare providers or recommend either option; both are legitimate, and many people use a combination.

Two ways to turn savings into income

A RRIF keeps the savings invested in your name. You withdraw at least a minimum each year and can take more. What is left at death goes to a beneficiary or the estate.

An annuity exchanges the savings for a stream of payments. The Financial Consumer Agency of Canada describes it as a financial product, usually sold by a life insurance company, that provides a guaranteed regular income. A life annuity pays for as long as you live, whether that is five years or thirty.

What a life annuity does

The FCAC’s own example is a life annuity bought for $100,000 at 65 that pays $500 a month. At that rate the buyer has received the purchase price back after 200 payments, around age 82. If they live longer, the payments continue; the FCAC’s table shows $150,000 received by 90. If they die early, a basic life annuity stops, and nothing goes to the estate.

The payment depends on factors the FCAC lists: age and health when buying, gender, the amount invested, the type of annuity, whether payments continue to someone else, interest rates at the time of purchase, and the provider. Interest rates matter a great deal. The same $100,000 buys a different income in a different year.

Guarantees, survivors and indexing

Basic life annuities can be changed with options, and the FCAC notes that each additional feature lowers the payment:

• Joint and survivor: payments continue as long as either of two people is alive, the same idea as the survivor option on a workplace pension.
• Guarantee period: if the buyer dies within a set number of years, payments continue to a beneficiary or the estate for the rest of that period.
• Cash refund: a one-time payment to a beneficiary, usually tied to the amount paid in.
• Indexing: payments that rise each year, by a fixed percentage or another formula, start lower than level payments. Ask exactly how any increase is calculated.

Annuities are covered by Assuris, the protection organisation for the life insurance industry. The FCAC explains that annuity income is protected at 100% up to $5,000 a month and 90% above that.

What a RRIF does instead

A RRIF is an account, not a contract for income. The money stays invested in whatever the holder chooses. Each year a minimum must be withdrawn, starting the year after the RRIF is set up; before 71, the minimum is the start-of-year balance divided by 90 minus your age. There is no maximum. Withdrawals can be raised for a renovation or reduced back to the minimum in a lean year.

The trade-off is that nothing guarantees how long the money lasts. If returns are poor, withdrawals are high or the holder lives a long time, the balance can run down. Why some people open a RRIF well before 71 is covered in a separate file.

The same $100,000, two ways

Neither column is better. The annuity pays more in the early years and guarantees the income for life, at the cost of flexibility and of anything left over. The RRIF keeps control and the remaining balance, at the cost of certainty.

Which risks move where

The useful way to frame the choice is by risk. With an annuity, the insurer takes on investment risk and longevity risk, the risk of living longer than the money. The buyer keeps inflation risk unless the annuity is indexed, and gives up liquidity: the FCAC says once you buy, you can’t change the terms and generally can’t get your money back. With a RRIF, the holder keeps all of those risks and all of the flexibility.

That is the same division found between the two kinds of workplace pension, described in defined benefit and defined contribution pensions are not the same promise. A defined benefit pension behaves much like an annuity, which is why someone who already has one may want more flexibility from their other savings, and someone who has only CPP, OAS and a RRIF may value a guaranteed layer more.

How each is taxed

Both are taxed as income when paid. For people 65 and over, the Canada Revenue Agency lists both RRIF income and annuity payments from an RRSP among the income eligible for the pension income amount, and both can be split with a spouse from that age. Annuity payments are also reported each year on a tax slip, like RRIF payments.

Questions worth asking

The short version

An annuity turns savings into an income for life and hands the investment and longevity risk to an insurer, permanently. A RRIF keeps the savings invested and flexible, and leaves those risks with you. The decision is less about which pays more and more about which uncertainty you would rather live with, and it does not have to be all one or the other.

SOURCES ON FILE

1. Financial Consumer Agency of Canada — Annuities — types, options, the $100,000 at 65 example, Assuris protection.
2. Canada Revenue Agency — Minimum amount from a RRIF — how the annual minimum is calculated.
3. Canada Revenue Agency — Line 31400, pension income amount — RRIF income and RRSP annuity payments at 65 or older.

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