Many people assume the only thing a Registered Retirement Savings Plan (RRSP) is good for is retirement income when they need it in the future, or to minimize their annual taxes (because contributions are tax deductible).
But there are other ways to make an RRSP work for you now and later. Here's how:
1. Use your RRSP to buy a home
With the federal government’s Home Buyers’ Plan (HBP) for first-time buyers, you can withdraw up to $35,000 to buy or build a qualifying home for yourself or a related person with a disability. It’s tax free to take the money out of your RRSP, but you'll have to pay it back within a 15-year period. You are considered a first-time home buyer if, in the previous four years, you did not occupy a home that you or your spouse owned.
You and your spouse can withdraw a total of $70,000 ($35,000 each). You need to begin repayment of the funds in the 2nd year following withdrawal. If you do not pay back the required amount in a given year, you will be taxed on that year's portion of the withdrawn amount. This could be a good way to balance home ownership and long-term savings.
2. Finance your education
Similar to the Home Buyers’ Plan, the Lifelong Learning Plan (LLP) allows you to withdraw up to $10,000 per calendar year (up to a total of $20,000) from your RRSP to finance full-time training or education for yourself, your spouse or common-law partner. The Government of Canada has information on program eligibility. The withdrawn amount must be repaid in equal installments over 10 years or it will be included as income that year. The first payment is due 60 days after the 5th year following the first withdrawal, at the latest. There is no limit on the number of times you can do this over your lifetime. However, you must finish paying off the previous withdrawal before you start again.
3. Reduce your income tax with a spousal RRSP
A spousal RRSP is used in situations where one spouse/partner is making more money than the other. For example, if your wife's annual salary is higher than yours, she'll have more RRSP contribution room because the limit is calculated at 18 per cent of one's income from the previous year, up to a maximum of $26,500 for 2019 (your RRSP contribution limit is listed on the annual Notice of Assessment sent to you by the Canada Revenue Agency).
If you're in a lower tax bracket, your wife can open a spousal RRSP for you. She'll pay into it based on her contribution limit and then she'll claim the tax deduction. When it comes time to withdraw the funds, the income will be taxed in your hands, instead of hers. In this scenario, you won’t pay as much tax when you take money from the plan in retirement, because you’re in a lower tax bracket.
If you are over age 71 and have earned income in the previous year, this creates new RRSP room for you in the current year. As long as your spouse is 71 years of age or younger; you can still claim a deduction for a spousal RRSP contribution.
Spousal RRSP's have certain attribution rules that require Spousal RRSPs to stay invested for 2 calendar years after the last contribution has been made. Withdrawals made within the 2 year period will be taxed in the contributor hands. If you don’t plan for this, the contribution will likely have had no positive tax impact.
4. Transfer other investment vehicles into an RRSP
You can contribute to all sorts of investment vehicles in an RRSP – bonds, stocks, exchange-traded funds (ETFs), guaranteed investment certificates (GICs) and mutual funds – as long as you stay within your RRSP contribution limit.
Before you transfer your existing investments into an RRSP, be sure to consult with an advisor. If you have potential capital losses, it may be best to sell the investment rather than transfer it directly into an RRSP. If you were to transfer it, you would not be able to claim the loss, which may be beneficial to offset any capital gains you may have in your portfolio.
5. Build tax-free savings with the money you save in taxes
The goal with RRSP contributions shouldn’t be to have a large tax refund. Ideally, you would break even – neither owing nor receiving additional income tax. If you do receive a large refund, you missed out on growth opportunities in the previous year, as the government was controlling and holding on to the money that was only paid to you after you filed your return. Use your accountant or online tax software to help guide you as to what your likely “break even” point may be.
If you do receive a refund, work with your advisor before the RRSP deadline to see whether it is more beneficial to pay down debt or invest in TFSAs/RRSPs.
6. De-register your RRSP before you retire
In some cases, you might want to start de-registering your RRSPs before you actually retire, or before your RRSP turns into a Registered Retirement Income Fund (RRIF) at age 71.
In years that you are earning less, pulling some RRSPs out may be a good long-term solution. The key to RRSPs is investing when you are in a higher tax bracket and pulling out in the lowest or lower bracket. Understanding how much you have in RRSPs and how to get that money out tax efficiently is key. RRSPs are great for some people, however, not everyone. Sometimes having too much in RRSPs at retirement may put you in a worse spot to be tax efficient.
A common example is self-employed individuals that have a corporation that pays money to a holding company. Each year, the same person contributes large sums to their RRSPs. At retirement, that person has a large holding company account and large RRSPs to pull out. When they were self-employed, they kept their taxable income low by keeping money in the corporation and having RRSP deductions, but now they are challenged in trying to get two large pots of money out in low tax brackets. Understanding what your long-term income looks like will help dictate whether investing in a TFSA or RRSP is a more suitable option for you.
Remember: Between 65 and 71, you can take advantage of the RRIF tax credit. You are allowed to pull $2,000 each calendar year from your RRIF, and will receive a tax credit for doing so. If you have a defined benefit plan, you will already have this credit incorporated in your withdrawals.
When the market is down, you might ask why you should be bothering to contribute to your RRSP. You may say you're going to hold off on investing until the market gets better. Or you could make irrational decisions such as selling an RRSP and paying a withholding tax.
Trust in the plan that you have worked on with your advisor and lean on them for advice and options. And if you're already a member and have been inspired to start contributing to your RRSPs, investing is quick and easy in online banking.
Mutual funds and related financial planning services are offered through Credential Asset Management Inc. Financial planning services are only available from advisors who hold a financial planning accreditation through applicable regulatory authorities. The information contained in this article was obtained from sources believed to be reliable; however, we cannot guarantee that it is accurate or complete and it should not be considered personal taxation advice. We are not tax advisors and we recommend that clients seek independent advice from a professional advisor on tax related matters.