What’s the Registered Retirement Savings Account (RRSP)?

Most people know that the Registered Retirement Savings Plan (RRSP) is for retirement but don’t really know all the benefits of having one.

What’s the Registered Retirement Savings Plan (RRSP) ?

A Registered Retirement Savings Plan (RRSP) is an investment account designed primarily for retirement saving. Either you or your spouse can contribute to an RRSP. This account is regulated by the Canadian government thus the word registered. Any interest or investment income that you earn in an RRSP is exempt from tax as long as the funds stay in the account.

When you withdraw from your RRSP, that’s when you start paying taxes on the amount as it is considered additional income. It’s important to understand the many benefits of RRSPs so you can get all the great advantages and make great savings decisions.

Who qualifies for the RRSP?

To be eligible to open an RRSP, you need to be under 71 years old,  be a Canadian resident for tax purposes and  be someone who files their income tax return in Canada.

How much can you contribute?

The contribution limits for this account varies per individual.  Contributions to your RRSP can only be made by individuals with “earned income” that is taxable in Canada. This includes salaries, self-employment income, maintenance and alimony payments, and net rental income. However it does not include income from pensions or investments. Certain other types of income may be eligible — consult a tax advisor or the Canada Revenue Agency (CRA) for more information.

Typically, you can invest up to 18% of your previous year’s earned income into an RRSP or a maximum amount whichever is smaller. For 2020, this maximum amount $27,230.

Every year after you have filed your income tax return, the CRA issues statements to individual taxpayers with the “Notice of Assessment”. This notice of assessment informs you of your RRSP contribution limit for the following year. So, if you don’t know what your contribution limit for your RRSP is, all you need to do is check your notice of assessment. If you have access to your CRA account online you can get a copy of your notice of assessment by simply logging in.

Your contributions are not lost, so if you are unable to contribute in a year, you can carry forward your contribution room.

You can contribute to your RRSP up until the first 60 days of the following year.  For example, you have until march 1st 2021 to invest in your RRSP and this contribution will count for the year 2020.

Every time you make an RRSP contrubution, you receive a tax receipt for your contributions from the financial institution holding your funds.

How to open an RSP?

To open your RRSP account, visit one of these financial institutions below:

• Credit unions
• Caisses Populaires
• Banks
• Trust companies
• Investment firms
• Mutual fund companies
• Life insurance companies

If you do online banking, you can usually open the RRSP account with your current bank online. Contact your financial institution to learn more about this.

What are the tax benefits?

RRSPs have 3 special tax benefits and it’s important to understand them so you can take advantage of them.

Tax deductible

Your annual RRSP contributions can greatly reduce the amount of income tax you pay in that year. The way that this works is that your RRSP contributions are deducted from your total earned income during the year. This makes it so that you only pay taxes on the remaining balance instead of your full earned income.

For example, if you contributed $10,000 into your RRSP during the year and it comes time to file your taxes, your income is then reduced by $10,000 before calculating the amount of tax you owe.

If your income is lower in a year, you can carry forward the deduction for your contribution to a future year when your income may be higher. That way, your tax savings are greater when you’re in a higher tax bracket.

Tax sheltered

The money you deposit into your RRSP account can have years of tax-deferred growth potential. As long as the money remains in the account, you won’t pay any taxes on it and the interest you earn is also tax free. You will only pay taxes if you withdraw from your RRSP.

The RRSP encourages Canadians to save for retirement and to keep the amount in the account until they are ready to retire. The idea is that when you retire and start withdrawing the amount from your RRSP, you will have a lower income and you will be in a lower tax bracket thus pay less tax.

Tax deferred

The money you deposit in your RRSP account won’t be tax free forever. At some point, you will have to start paying taxes on the amount when you withdraw from it. However, the best tip is delaying withdrawing from your account, presumably until retirement. Most people will have a lower tax bracket when they retire. So by deferring the tax until you’re retired, you will end up paying less tax when you do withdraw from the account.

Understanding your options for withdrawing from your RRSP

RRSPs are specifically designed for retirement. Typically it’s best to only start withdrawing when you retire. You can withdraw from your RRSP, however, every time you withdraw from the account the amount is subject to withholding tax. Here are the minimum percentages of tax the financial institution has to withhold when you withdraw from your RRSP.

The rates depend on your residency and the amount you withdraw. For residents of Canada, the rates are:

10% (5% in Quebec) on amounts up to $5,000

20% (10% in Quebec) on amounts over $5,000 up to including $15,000

30% (15% in Quebec) on amounts over $15,000

For funds held in the province of Quebec, there is also a provincial tax withheld. For more information on Quebec withholding, contact your financial institution or Revenu Québec.

There are two options where you can withdraw from your RRSP account without paying any tax. You can withdraw under the Lifelong Learning Plan (LLP) and the Home Buyers’ Plan (HBP).

Lifelong Learning Plan (LLP)

The Lifelong Learning Plan allows you to withdraw from your RRSP to finance full-time training or education for you or your spouse or common-law partner. You can withdraw up to $20,000 from your RRSP to further your learning and you will have 10 years to repay your RRSP.

Home Buyers’ Plan (HBP)

The Home Buyers’ Plan is a program that allows Canadians to withdraw up to $35,000 from their RRSPs to buy or build a qualifying home for themselves or for a related person with a disability. You have up to 15 years to repay this amount to your RRSP account without any interest or tax.

For more information about the HBP and LLP, visit the CRA.

You can hold your RRSP until the year you turn 71. After this age, your RRSP account has to be converted into a RRIF ( Registered Retirement Income Fund) so you can start taking the money out.

Bottom line

RRSPs are a great way to save for your retirement. If you start early and make steady contributions, you’ll be well on your way to building a solid financial future for your retirement years.