How to Keep your RRSP’s Creditor Proof?
Written By: John Klotz
You know, every so often, something pops up in my day to day practice that stops me in my tracks. Such an event occurred with a prospective client.
Here’s the deal. This individual is a successful consultant who makes a healthy six-figure income. She’s been socking it away into her home and RRSP’s to name a few. Infact, her RRSP’s are in excess of $300,000. Not bad for someone in their late 40’s!
So, what’s the problem? Well, here it is. She got involved in a bad business venture and is holding the bag for the losses of the company. And she is only a minority shareholder!
Here’s the downside. She’s being sued and if the suit is successful, she will lose her house and her RRSP’s! Ouch!
The truth is, if she had met me before the trouble had begun, she could have creditor protected herself and kept it all! But now, because the lawsuit is in action, she can’t do anything. Infact, she asked me if she could creditor protects her RRSP’s and I advised her that it was too late. Since there is a lawsuit pending, a move to Creditor Protected RRSP’s will not work for her. And I’ll tell you why as we go through this article. But if she had acted prior to the sniff of a lawsuit, she would have been fine and her RRSP’s would be out of the reach of credtiors.
So, you might be asking yourself, just what are creditor protected RRSP’s? And do I need them.
Creditor Protected RRSP’s are referred to as segregated funds. Like a mutual fund, a seg fund pools money from many investors so it can be managed by a professional and provide a good return. Infact, many seg funds look like brand name mutual funds like AGF, Trimark, and Fidelity. But seg funds are actually insurance contracts with two components: an investment that produces the return and an insurance contract that covers the risk. Unlike mutual funds, seg funds guarantee either 75% or 100% of your principal. A small part of the fund’s assets goes to insure there will be enough cash to pay that guarantee. Since there is an insurance element with the seg funds, they are considered annuities. Therefore, they are creditor protected since they are effectively insurance contracts.
To ensure creditor protection of a segregated fund, the beneficiary must be a family member. The wording of the Insurance Act s. 196 (2) for the protected family beneficiary : is as follows:
196(2) While a designation in favor of a spouse, same-sex partner, child, grandchild or parent of a person whose life is insured, or any of them, is in effect, the rights and interests of the insured in the insurance money and in the contract are exempt from execution or seizure. [Definition includes common-law and same-sex parties who live together in a conjugal relationship]
Note to reader: Don’t get cute and name your mistress – leave your creditor protected RRSP’s to your family members.
That being said, you can’t wake up one morning and find yourself facing a lawsuit (like my client) and decide to plop your funds into a creditor protected RRSP. According to the legislation,“Settlement” of your RRSP’s into a segregated fund must be done within 1 year of bankrupt, or within 5 years of bankruptcy if the property was at the time required to pay the person’s debts. If there is a sniff of trouble at the time of the transfer to the creditor protected RRSP, this will be construed as Fraudulent Conveyance , which basically means the individual knew they were in trouble and looked for a safe hideaway. The courts rule in favor of the creditors in times like this and seize the funds.
For the client mentioned in this article, it’s just too late, as a quick transfer to a segregated fund will be construed as fraudulent conveyance. That being said, she’s considering taking out her RRSP’s altogether, flying to Vegas, and betting on RED! More power to her at this point!
What does this mean to you? Well, if you are a consultant or a business owner, you really must consider creditor protecting your RRSP’s. And you have to do so when your affairs are in good standing order. If you contribute regularly to a segregated fund and you find yourself with a litigious creditor, then the creditor will not be able to access your RRSP’s for loan payment.
It’s best to speak with your advisor about segregated funds to see if they suit your financial planning requirements.
This article was written by John Klotz. John is President of Northwood Mortgage Life. You can reach John at [email protected] or call 416-969-8130 ext. 230