Is investing in your RRSP really worth it?
The 2022 RRSP contribution deadline is March 1st, and this time of year always brings up a thousand questions - Should I contribute? What are the tax implications? Are there benefits beyond retirement funds? Are there better options?
As much as the trusty ol’ Registered Retirement Savings Plan has a reputation for being your grandpa’s preferred method of saving, it can actually provide far more opportunity for growth than you might think!
The RRSP 411
An RRSP is a tried and true, low-risk savings plan that has been around since the late 50s as a way for Canadians to tax-shelter their wealth while they grow it for retirement. The funds you contribute over your lifetime can just hang out there, as with any old savings account, or you have the option of investing that cash in mutual funds, for example, to multiply your growth over time.
One of the most notable upsides to the RRSP is that contributions are deducted from your taxable income. This means that any case you contribute will reduce the amount of tax you owe that year and could put more cash in your pocket when returns come around! Because of this perk, there is a limit to how much we can contribute, set by the CRA each year. Then, when retirement rolls around, funds may be withdrawn to continue to support your lifestyle, but remember that this is when your contribution will be taxed - as you take them back out as income.
As we have mentioned previously, the federal First Time Buyers’ Plan allows Canadians to withdraw up to $35,000 per person from their RRSP, tax-free, to contribute to their down payment. The catch? Funds must be repaid within 15 years, or taxes will be charged.
The bottom line? The RRSP is a vehicle that most Canadians leverage in one way or another over our lifetimes. If not for our first home down payment then for our longer term financial goals. But there are so many ways that this little tool can help you even more than that!
Tax implications
Since any contributions you make to your RRSP each year are deducted from your taxable income, many Canadians opt to invest yearly to reduce their tax bill or increase their tax refund.
But it’s important to remember that in Canada, we are taxed on what is referred to as a marginal tax system. Essentially this means that the more money we make, the more we are taxed and vice versa. You’ve likely heard the term tax bracket before, which refers to the range your income falls within that determines the level you are taxed at. Your marginal tax rate, on the other hand, is the rate of tax you pay for every dollar earned - it is also your rate of tax savings when you make a contribution to your RRSP.
This rate is based on 2 factors - your gross earnings, and the province you live in. If you’re interested, you can find a great breakdown of what your combined federal and provincial rate is here.
Now, let’s take a look at a quick example.
If you earn $100,000 per year in Alberta, then your marginal tax rate will be 30.50% on regular income and investment interest - which means that you will be liable for $0.3050 on every additional dollar earned. And remember, the rate of taxation is the same as the rate of savings on RRSP contributions. Therefore, if you have $10,000 to contribute to your RRSP this season, this would reduce your tax liability by $3050. To do a quick calculation of what your tax savings would be, take a look at the charts linked above. You’ll also want to consider whether you have any space leftover from not maxing out your contributions from previous years, and that you can actually defer the credits afforded by your contribution to a future year - a year, for example, when income has been less steady and you’ll want to decrease your tax bill by even more.
Hack your RRSP to buy your first home
As you know, The Home Buyer’s Plan (HBP) allows every Canadian to withdraw up to $35,000 from their RRSP untaxed to contribute to their first down payment. But did you know that there are a few ways to hack your RRSP to further increase the benefit of this program?
First, let’s say you are well on your way to having your down payment saved up and are planning to buy in the next year or so. Having the cash in the bank is great! But by routing it through your RRSP, you could actually add thousands of dollars to that pot! It’s simple - make a contribution for as much as your current limit will allow. If you haven’t maxed out your contribution in previous year then you could potentially contribute the entire $35,000 that you will be allowed with withdraw under the HBP. If you have a salary of around $100,000, this contribution could increase your tax refund this year by over $10,000! Then, after a minimum of 90 days, you will be able to withdraw that same $35,000 tax-free to make your down payment, but you will have an extra cash influx on hand!
Or perhaps you are working hard on saving for your down payment but the cash isn’t coming quite as quickly as you’d like? If you are qualified to do so, you may actually access a loan to contribute that $35,000 to your RRSP. Then, after a minimum of 90 days, you can withdraw it to use toward your down payment! Of course, it’s important to remember that the loan you’ve taken out will be included when calculating your debt ratios for your mortgage qualification. With that in mind, it’s important that you connect with the Happiness Creators to look at your entire financial situation before jumping in to this particular hack.
The bottom line
Once upon a time, the RRSP was thought of as a bit of an outdated retirement planning tool. However with the market as uncertain as it is, the trusty Registered Retirement Savings Plan is having a bit of a renaissance as a wealth building tool for both short and long term financial goals.
Reach out to our team of Happiness Creators today to navigate whether an RRSP investment could be the right choice for you this year, or any year ahead!
