Registered Retirement Savings Plan

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Tax-advantaged
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The Registered Retirement Savings Plan (RRSP) is a type of registered account for holding savings and investment assets. The primary purpose of these tax advantaged accounts is saving and investing for retirement, as the name indicates.[1] RRSP are used by Canadians who do not have access to workplace pensions or who need to save in addition to these pensions to reach the required savings rate.

The types of investments that can be held in a RRSP are called qualified investments.[2] These include cash (including foreign currencies), guaranteed investment certificates (GICs), bonds, strip bonds, shares, warrants and options, units of real estate investment trusts, units of limited partnerships, units of royalty trusts, exchange-traded funds, mutual funds, segregated funds, insured mortgages, several types of annuity contracts, gold and silver bullion, etc.[2] [3] For advice on how to invest in a RRSP, see portfolio design and construction.

Until you turn 71, you may contribute up to 18% of your previous year's earned income to a RRSP, up to a yearly maximum, and taking into account any pension adjustments. Unused contribution room can be carried forward. You must close your RRSP in the year you turn 71, at which time you can withdraw your RRSP savings in cash (with tax consequences), convert it to a Registered Retirement Income Fund (RRIF) or buy an annuity.[1]

Deductible RRSP contributions can be used to reduce your income tax for the current year, or 'saved' for a future year when your marginal tax rate will be higher. Any income you earn in the RRSP is usually exempt from tax as long as the funds remain in the plan; you generally have to pay tax when you receive payments from the plan.[4]

Contributions

Contribution room

Taxpayers can contribute 18% of their earned income to a RRSP,[5] up to a maximum of:

  • $30,780 in 2023,
  • $31,560 in 2024

Contributions can be made until the end of the tax year in which they turn 71, or if using a spousal RRSP, the year your spouse turns 71.[6] Contribution room is reduced if a taxpayer is also a member of a Registered Pension Plan. Since 1991, unused contribution room is carried forward and may be used in future tax years.

Under the rules, you have up to 60 days after the end of the year to make a contribution and have it deductible from taxable income for the previous tax year. There are a number of ways you can determine your RRSP deduction room:

Contribution limits history

The calculation of contribution limits has changed considerably since RRSPs were first introduced in 1957.[7] [8] Until 1990, limits were based on earned income in the current year and annual dollar limits were changed only occasionally. If a taxpayer made no contribution, the contribution room was lost. In 1991, after a study of how best to harmonize RRSP rules with those governing pension plans, the rules changed. Contribution room became cumulative, additions were based on the previous year's earned income less an adjustment for pension plan participants, and annual dollar limits increased substantially.

1957-1990

Contributions were on a "use it or lose it" basis. Percentage limits were based on the current year's earned income. Dollar limits for pension plan members were further reduced by the amount of their RPP contributions.

Years No pension plan Pension plan
1957-1964 10% up to $2,500 10% up to $1,500
1965-1971 20% up to $2,500 10% up to $1,500
1972-1975 20% up to $4,000 20% up to $2,500
1976-1985 20% up to $5,500 20% up to $3,500
1986-1990 20% up to $7,500 20% up to $3,500

1991-present

Since 1991, RRSP contribution room is a cumulative account. Every year, 18% of the previous year's earned income is added to the account, subject to the dollar limit specified below.[5] The account balance is reduced by contributions and a pension adjustment calculated by employers for RPP members. The annual dollar limits for additions to the account are in the table below (please note the above-mentioned 18% calculation still applies).

Year Contribution Limit Year Contribution Limit Year Contribution Limit Year Contribution Limit
1991 $11,500 2001 $13,500 2011 $22,450 2021 $27,830
1992 $11,500 2002 $13,500 2012 $22,970 2022 $29,210
1993 $12,500 2003 $13,500 2013 $23,820 2023 $30,780
1994 $13,500 2004 $14,500 2014 $24,270 2024 $31,560
1995 $13,500 2005 $16,500 2015 $24,930
1996 $13,500 2006 $18,000 2016 $25,370
1997 $13,500 2007 $19,000 2017 $26,010
1998 $13,500 2008 $20,000 2018 $26,230
1999 $13,500 2009 $21,000 2019 $26,500
2000 $13,500 2010 $22,000 2020 $27,230

After 2010, the contribution limit is indexed to the annual increase in average wages.

Who contributes how much?

In 2020, 6.2 million Canadians, or only 22% of tax filers, made a RRSP contribution and the median contribution was $3,600.[9] In 2015, the number of contributors was similar, yet 24 million Canadians had RRSP room available.[10]

The total contributions for 2020 were $50 billion.[9] Between 1991 – when carryforwards were first allowed – and 2015, Canadians have accumulated more than $900 billion in unused contribution room.[10] So the 2015 contributions equate to only 4% of the accumulated contribution room.

Tax refunds

For those who don't make use of Form T1213,[11] which directs employers to reduce automatic tax deductions at source (which include tax pre-payments, but also CPP and EI premiums) to reflect RRSP contributions made at the beginning of the year, a RRSP contribution may create a tax refund. While getting a tax refund sounds nice, this is your own money you are getting back, after having loaned it interest-free to the government.

Excess contributions

The RRSP rules allow an excess contribution of up to $2000 without penalty. Should your excess contributions be above this amount, a 1% per month penalty will apply until the excess contributions is below the limit.[12]

Spousal RRSP

A spousal RRSP is one where your spouse owns the plan, but you make the contributions. This is an income splitting strategy that aims to reduce family taxes by shifting retirement income from high income earners to low income earners. The spousal RRSP contributions are deductible by the contributor. Taxation on withdrawals from a spousal plan depends on their timing; this is known as the three-year rule. The rule says "any withdrawals will be taxed in your hands to the extent you made a contribution to a spousal RRSP in the year your spouse makes a withdrawal or the previous two years."[13]

Investing in a RRSP

Qualified investments

The types of investments that are permitted in a RRSP are called qualified investments.[14]. This includes:

Investment strategies

For long-term investing, such as for retirement, the RRSP should be considered part of a larger portfolio, along with TFSAs, non-registered accounts, etc. This overall retirement portfolio should ideally be managed according to an investment policy statement, which includes an asset allocation. Implementation of this asset allocation is covered in portfolio design and construction. The main asset classes to consider are cash, fixed income and equities. Maximum simplicity can be obtained with asset allocation ETFs.

Making withdrawals

Withholding taxes

Ideally, RRSP funds aren't needed until a person retires, at which point they can be rolled into an annuity or a Registered Retirement Income Fund. But the ideal is not reality; sometimes people need access to funds before retirement, particularly in years of low income. There is a staggered schedule for withholding taxes on RRSP withdrawals. It is 10% on the first $5,000, 20% on the next $10,000, and 30% on amounts over $15,000.[15] (In Québec, withholding rates are 21%, 26%, and 31%.)[16]

The funds are withheld by the financial institution and transferred to governments. This is not a special tax on RRSP withdrawals, but rather a crude estimate of what the final income tax bill may be.[16] The actual tax on the RRSP withdrawal will be calculated later, when filing your tax return, and could be more, or less, than the withheld amount, depending on your total income for the year.[15]

In contrast, there is no withholding tax when the minimum amount is withdrawn from a RRIF.[16]

Special withdrawal plans

Home Buyer's Plan

Main article: Home Buyers' Plan

The Home Buyers' Plan (HBP) is a program that allows you to withdraw funds from your Registered Retirement Savings Plan (RRSPs) to buy or build a qualifying home for yourself or for a related person with a disability. You can withdraw up to $35,000 in a calendar year. The maximum amount was increased in the 2019 federal budget from the previous value of $25,000, for withdrawals made after March 19, 2019. [17] Your RRSP contributions must remain in the RRSP for at least 90 days before you can withdraw them under the HBP, or they may not be deductible for any year.[18]

If you buy a home together with your spouse, and both of you qualify for the program, each one can withdraw up to the maximum amount from their own RRSP. A spousal RRSP is eligible for the annuitant (owner), not the contributor.

The HBP rules require that the funds must be repaid to your RRSP over the next 15 years. It does not matter if the original HBP withdrawal came from a regular RRSP or from a spousal one; the funds must be repaid to a regular RRSP. If you do not repay on schedule, the required amount is added to your taxable income for the year.

Critics of the HBP point out that RRSPs are supposed to help Canadians save and invest for retirement, not buy real estate, and that using your RRSP to buy real estate decreases your overall diversification, as well as hurting your portfolio returns (see Mortgage: HBP).

Lifelong Learning Plan

Main article: Lifelong Learning Plan

The Lifelong Learning Plan (LLP) allows you to withdraw amounts from your RRSPs to finance full-time training or education for you or your spouse or common-law partner. You cannot participate in the LLP to finance your children's training or education, or the training or education of your spouse's or common-law partner's children.[19] You can withdraw up to $10,000 for yourself and $10,000 for your spouse or common-law partner, for a total LLP withdrawal limit of $20,000. Like the Home Buyer's Plan, RRSP contributions must remain in the RRSP for at least 90 days before you can withdraw them under the LLP. Under the program rules, the amount withdrawn from a LLP must be repaid over the next ten years.

Meltdown

There is sufficient anxiety about high tax rates in retirement that many investors seek ways to prematurely collapse their RRSPs. There are a number of ways to do it; many involve leverage, i.e., taking out a deductible investment loan that lessens the tax on RRSP withdrawals. They are often referred to generically as the Singleton shuffle[20] but involve a body of tax law that is still evolving.

Termination

An RRSP must be wound up or terminated before the end of the year in which the holder reaches age 71.[21] The plan holder must choose between purchasing an annuity, transferring the RRSP to an Registered Retirement Income Fund (RRIF), or withdrawing the entire amount. Since the latter option would result in the entire amount of the RRSP being fully taxed in the year it is withdrawn, it is not usually recommended unless the RRSP is fairly small.

History

RRSPs were introduced in 1957, at a time when pensions were largely the domain of private companies. Without a pension or private savings, a retiree would have had to rely on the means-tested Old Age Pension, introduced in 1927, a $20 a month benefit for those 70 and over. It was replaced by Old Age Security (OAS) in 1952, which doubled the benefit and dropped the means test.[22] The Canada Pension Plan and its Québec counterpart (Québec Pension Plan or QPP) did not yet exist; they were introduced in 1966. At the time of their introduction, RRSP investors could contribute $2,500 or 10% of income, whichever was smaller.[23]

RRSP or another account?

Main article: Prioritizing investments

Prioritizing investments is sometimes a challenge for investors who are able to place their investments in several different kinds of accounts. Investing in a prioritized order can maximize the tax efficiency of a portfolio. Different accounts can also be more suitable depending on the savings goal and the investment horizon.[24]

RRSP versus TFSA

Main article: TFSAs versus RRSPs

In a RRSP you contribute pre-tax dollars, but you are taxed on withdrawals. In a TFSA, it's the reverse: you contribute post-tax dollars, but no tax is due on withdrawals.

For short term to medium term goals like saving for a car, a vacation or a home renovation, the TFSA is more flexible. After a TFSA withdrawal, no tax is due, and the contribution room is not permanently lost: you can re-contribute the next year. (For a house/condo purchase, there is a special way to withdraw from a RRSP, which muddies the debate, see the Home Buyer's Plan; there is also the new First Home Savings Account.)

For long term goals like retirement, in general, a good strategy is to contribute to both a RRSP and TFSA. If you have to choose, the biggest point is: will your marginal tax rate during retirement be higher or lower than during your working years? The general idea of deferring tax with a RRSP is that your tax rate will be lower during retirement.[25][26] If not, the TFSA is likely preferable.

This is especially the case for very low-income workers, because during retirement, the Guaranteed Income Supplement (GIS) – the supplement to OAS for low income seniors – might be clawed back if they make RRSP withdrawals. For those very-low income people, saving in a TFSA is clearly preferable. Because the GIS will be clawed back based on RRSP withdrawals, holders of very small RRSPs (a few thousand dollars) who will be eligible for GIS after age 65 should consider withdrawing the entire RRSP before the year in which they reach age 65.[citation needed]

RRSP versus non-registered

When saving for retirement, RRSPs are generally a better idea than non-registered accounts. The first reason is that RRSP investments are made with pre-tax dollars (taking the effect of any tax refunds into account), whereas non-registered accounts use post-tax dollars. So for the same pre-tax income, the amount invested will be larger than in a RRSP.[27] Then the investments will be allowed to grow tax-free, possibly for several decades, in the RRSP. In a non-registered account, tax is due each year on interest, dividends and realized capital gains; this curbs growth.

Additional advantages of the RRSP for retirement savings include:

  • RRSP contributions lower your net income, so can increase some income-tested benefits such as the Canada child benefit, if you have children under 18 years old
  • There is a motivation to save regularly to get a tax refund (or preferably, lower the tax paid on each paycheque)
  • Once the money is in the RRSP, the temptation to take it out prematurely is lessened by the resulting loss of contribution room and the withholding taxes that would be applied
  • Eventually the RRSP can become a RRIF, and RRIF withdrawals can be split between spouses for tax purposes.[citation needed]

Savings in a non-registered account are taxed in different ways. Income and interest payments are fully taxable. Certain dividend payments receive a credit, while only half of capital gains are treated as income. RRSP withdrawals are taxed as income, even if, inside the RRSP account, they were earned as dividends or capital gains. So depending on tax rates during the contribution years versus the withdrawal years, and the types of investments involved, the "RRSP versus non-registered account" answer might conceivably be different.[28] For very high income earners, the fear of OAS clawback might be an additional factor, but "OAS clawback affects only a small number of Canadians".[29]

For shorter term savings goals, if the choice is between a RRSP and a non-registered account (e.g., TFSA space is used up already), then the non-registered account is more flexible.

RRSP versus paying back debt

Main article: Paying down loans versus investing

Should you pay back your loans, perhaps including a mortgage, or invest in a RRSP? The answer may depend on the loan interest rate (e.g., 20% credit card versus low-interest rate mortgage), on expected investment returns, on your risk tolerance, and other factors including non-mathematical considerations. For many investors, the peace of mind from not having a loan is valuable.

What happens when the account holder dies

CRA's publication RC4177(E) is called Death of an RRSP Annuitant. In summary, for an unmatured RRSP (one that does not pay income):

  • for tax purposes, the RRSP is generally assumed to have been liquidated at fair market value immediately before death, and this amount is added to the deceased taxpayer's income for the year
  • an exception to this is when the spouse is the sole beneficiary of the RRSP, with the designation made in the RRSP contract or in the will (only possible in the will in Quebec); in this case, the RRSP can be rolled over to the surviving spouse (to their RRSP or RRIF) with no immediate tax consequences and no impact on the spouse's contribution room
  • tax deferral may also be possible if the beneficiary is a financially dependent child or grandchild under 18 years of age, or a financially dependent mentally or physically infirm child or grandchild of any age[30]
  • it may also be possible to rollover the RRSP into the RDSP of a dependent child or grandchild
  • see RC4177(E) for all the details

References

  1. ^ a b Ontario Securities Commission, What is an RRSP and how does it work, updated October 4, 2023, viewed October 28, 2023.
  2. ^ a b Canada Revenue Agency, Income Tax Folio S3-F10-C1, Qualified Investments – RRSPs, RESPs, RRIFs, RDSPs, and TFSAs, modified May 10, 2022, viewed October 28, 2023.
  3. ^ TaxTips.ca, What Investments Can be Held in an RRSP, RRIF, RESP or TFSA?, viewed March 15, 2017
  4. ^ Canada Revenue Agency, Registered Retirement Savings Plan (RRSP), viewed February 23, 2014.
  5. ^ a b "MP, DB, RRSP, DPSP, and TFSA limits and the YMPE - Canada.ca". Government of Canada. 2022-11-17. Retrieved 2023-01-01.
  6. ^ Canada Revenue Agency, Contributing to your spouse's or common-law partner RRSPs, Viewed February 9, 2012
  7. ^ Statistics Canada, RRSPs: Tax assisted retirement savings, viewed March 3, 2012.
  8. ^ RBC Economics, RRSP Contributions, viewed March 3, 2012.
  9. ^ a b Statistics Canada, Registered retirement savings plan contributors - Canada, provinces and territories, viewed October 28, 2023.
  10. ^ a b Statistics Canada, Registered Retirement Savings Plan (RRSP) room, Table 111-0040, viewed February 28, 2017
  11. ^ Canada Revenue Agency, T1213 Request to Reduce Tax Deductions at Source for Year(s).
  12. ^ CRA, Excess contributions, viewed February 17, 2012.
  13. ^ Tim Cestnick, Please your partner (and yourself) with a spousal RRSP - The Globe and Mail, viewed February 9, 2012.
  14. ^ Canada Revenue Agency, TIncome Tax Folio S3-F10-C1, Qualified Investments – RRSPs, RESPs, RRIFs, RDSPs, and TFSAss, viewed November 4, 2023.
  15. ^ a b Tim Cestnick, Withdrawing from your RRSP, The Globe and Mail, March 9, 1999, viewed January 26, 2017.
  16. ^ a b c Camillo Lento, Understanding The RRSP Withdrawal Withholding Tax, Canadian MoneySaver, Nov/Dec 2016 issue(subscription required), viewed January 26, 2017
  17. ^ Budget 2019 Modernizing the Home Buyers' Plan Viewed April 28, 2019
  18. ^ Home Buyers' Plan (HBP), viewed February 17, 2012.
  19. ^ Lifelong Learning Plan, viewed February 17, 2012.
  20. ^ ADVISOR’S EDGE REPORT, April 2007, Tax Abuse, Viewed July 3, 2009
  21. ^ Wikipedia, Registered Retirement Savings Plan, viewed March 6, 2009.
  22. ^ Human Resources Development Canada The History of Canada's Public Pensions.
  23. ^ Sarah Dougherty "RRSPs have come a long way since introduction in the 1950s",The Gazette, 2008-02-11.
  24. ^ TFSA, RRSP or RESP: How to choose where to invest your money, Globe and Mail(subscription required), updated October 6, 2022, viewed October 29, 2023.
  25. ^ MoneySense, TFSA vs RRSP: How to decide between the two, October 28, 2022, viewed Obtober 29, 2023.
  26. ^ retirehappy.ca, TFSA vs. RRSP: Where Should You Put Your Money?, updated February 23, 2023, viewed October 29, 2023.
  27. ^ John Heinzl, No, investing in a non-registered account doesn’t beat an RRSP, Globe and Mail, February 7, 2023, viewed October 29, 2023.
  28. ^ TaxTips.ca, Is it Better to Invest in RRSPs or in a Non-Registered Account?, revised October 26, 2023, viewed October 29, 2023.
  29. ^ Investment Executive, Clawback not a threat to most, December 1, 2005, viewed October 29, 2023.
  30. ^ Taxtips.ca, How are RRSPs and RRIFs Taxed at Death?, viewed December 16, 2024.

Further reading

External links

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