Happy new year, everyone! So it’s 2022, and people will start talking about TFSA contributions and RRSP contributions, so I thought it’d be a good idea to make an article on the RRSP. Now, this can be a confusing topic. So first, I’m going to talk about why the RRSP is beneficial? Why should you even bother looking into it?. Then, in the next part of the article, I will talk about some rules and things to consider and be aware of when it comes to the RRSP, so whether you know nothing about the RRSP or feel pretty confident about it. I promise you that there will be at least one thing that you can take away that you didn’t know before in this article.

 

RRSP Meaning

The registered retirement savings plan is a tax-sheltered or tax-advantaged account that allows Canadians to put money away to save for their retirement. Now, remember the RRSP is not an investment. An RRSP is simply an account where you can put money away and then invest should you choose so, but the RRSP can hold cash in various forms of investments. I want to clarify that the RRSP itself is not an investment; instead, it’s just an account. Any money you put into an RRSP is called a contribution, and a contribution can be used to reduce your income on your tax return in that year, the year of the contribution or in a future year.

How does RRSP work

So as you put money away into your RRSP throughout your lifetime and invest it, you’re going to accumulate a lot more money in that account than you otherwise would have had you invested that money in a taxable account and had to pay tax every time you earned any income. However, the word savings isn’t a registered retirement savings plan. It’s best used as an investment vehicle; it’s best used as a place where you’re going to put money in and then invest it so that your investments can grow tax-free throughout your lifetime. Now you can hold a variety of investments in your RRSP, including stocks, bonds, GICs, mutual funds, ETFs, index funds, etc.

Tax deferred does not mean tax free. Eventually, when you retire, you will have to pay tax on the RRSP income when you withdraw the money from your RRSP. A withdrawal from your RRSP goes back onto your tax return as income, and you have to pay tax. Still, the whole point of the RRSP is that by the time you retire, and you take the money out, and you have to pay tax on it, you’ll most likely be in a much lower tax bracket than you were when you’re making the contributions and this right here is super important.

When it comes to Canada’s personal taxes, we use a progressive tax system, which means that as your income increases, your tax rate also increases. Now you can think of these rates as buckets as your income reaches the top of one bucket; any extra income goes to the next bucket where the tax rate is higher.

RRSP Advantage

  1. Your contributions to your RRSP reduce the taxes you pay in that year. Your tax savings will be dependent on your tax bracket. The higher the tax bracket, the more the savings for every dollar you contribute and subsequently deduct on that tax return.
  2. Your investments grow tax-free until you make a withdrawal, which means that you can accumulate a lot more money throughout your lifetime.
  3. You may be able to get a net tax saving, and this is because the tax savings you earn today may be higher than the tax cost when you withdraw the money; this is usually the case when you make more money today when you’re contributing versus when you are in your retirement, and you’re withdrawing, right? Because your tax rate when you’re earning income is going to be high, and your tax rate when you’re retired is going to be low. So there’s a bit of a tax rate arbitrage there that the RRSP allows, for now.
  4. Some of you may be reading this article to help determine whether you should invest in an RRSP or TFSA. I’m going to make a separate article on that because the discussion can be a little bit nuanced, but what I just went over is probably going to be the primary factor that’s going to help you decide between RRSP and TFSA the more significant the difference between your current tax rate and the tax rate you think you’re going to have in retirement the more likely it’s going to make sense for you to invest in your RRSP because you can take advantage of that tax rate differential.

All right, we’ve talked about the benefit of the RRSP and why it’s such an excellent program for Canadians.

Now I want to get into a bit of the rule and things you guys need to be aware of when looking into this program. First of all, I highly recommend that everyone go to Canada Revenue Agency, CRA’s website take a look at their guides not just for the RRSP but for any topic that you may have a question on that is for your taxes CRA has a lot of resources, and I find that people don’t utilize them that well.

RRSP contributions

Another topic that’s important to bring up is contribution limits remember the whole point of the RRSP is to help Canadians retire it’s not meant as a tax-free shelter for millionaires or billionaires dump money in there and never pay tax or pay tax way down the line it’s really used for average Canadians to save over time which means that there is a limit as to how much you can contribute every year and typically that’s 18% of your prior earned income or a maximum threshold that the Canada Revenue Agency, CRA,

sets out every year so it’s the lower of the two now the maximum amount changes year to year and Canada Revenue Agency, CRA will inform you what your contribution limit is on your most recent notice of assessment and you can also log into CRAs website for my account and take a look there and you’ll be able to see your RRSP and your TFSA contribution room now if you haven’t been making the max RRSP contributions year over year, don’t worry similar to the TFSA that contribution room stacks so you don’t lose it if you want to deduct RRSP contributions on your tax return you have until the first 60 days of the following calendar year to make that contribution and so for this year 2022 you have until march 1st, 2022 to make a contribution that will be deducted on your 2021 tax return.

RRSP withdrawal

Now earlier i mentioned how when you finally retire and you’re taking money out of your RRSP it’s going to be subject to tax because it’s included in your income I want to point out that you don’t necessarily have to wait to retirement to make an RRSP withdrawal you can withdraw money out of your RRSP at any time but again be aware that if you make a withdraw you have to put that back into your income right when you made the contribution you had a tax deduction when you make a withdraw and get that cash back there has to be an income inclusion and typically in the financial institution you bank with if you request an RRSP withdrawal they will automatically withhold a certain percentage in withholding taxes to make sure that the Canada Revenue Agency CRA is going to get at least some of their taxes right up front when you finally file your tax return for the year depending on how much they withheld and how much you actually have to owe you may get a refund or owe a little bit more money and that all depends on what your tax rate is now there are two exceptions to that and that is if you’re withdrawing money for the home buyers plan and the lifetime learning plan and i’ll include links in the description so you guys can find out a little bit more about those programs now unlike TFSA contribution room RRSP contribution room is not returned to you when you make a withdrawal. when you make a withdrawal from your TFSA let’s say you take out $10,000, January 1st of the next year you get that $10,000 of contribution room back right that makes sense but for the RRSP that’s not the case if you make a withdrawal you do not get that contribution room back.

RRSP versus RRIF

Something to keep in mind if you’re thinking about taking money out of your RRSP when you turn age 71 the RRSP turns into what’s called a RIF and RRIF a registered retirement income fund and the registered retirement income fund forces you to make a minimum withdrawal from the account every year and so essentially what the Canada Revenue Agency, CRA is doing is saying hey you’re getting old we’re going to force you to start taking money out of your RRSP so that you start paying tax on it, I mentioned that you can make a contribution to your RRSP but then make the tax deduction in a future year so you can put cash into your RRSP this year but wait until a future year to make the deduction and so you can be a bit strategic with when you’re deducting it on your tax return meaning if you make contributions now or regularly you can wait until you’re a higher tax bracket to make those deductions and they’ll get a better bang for your buck when you do those deductions

Spousal RRSP

The RRSP also allows for income splitting opportunities, if you make more than your spouse, you can contribute to your spousal RRSP program. Overall, you may reduce the total taxes you pay as a couple.

How to withdraw RRSP without paying tax

Again as I mentioned earlier, there is that exception withdrawing money for the home buyers plan or lifetime learning plan, and you can use your RRSP as kind of a tax-free loan from yourself to fund your education or fund your first purchase of a home.

 

Conclusion

All right, guys, that’s it. That’s all I want to cover. I want to do a basic overview of the RRSP program. I hope you guys learned something, and it was easy to understand. Let me know what you think in the comments down below, and please subscribe to our newsletter.