What is an RRSP?
A Registered Retirement Savings Plan (RRSP) is an investment vehicle used to save for retirement. Any contribution lowers tax owing, meaning a contributor can deduct contributions against their income. This allows contributors to reduce their tax bill during their working years. The account is designed to encourage withdrawals at retirement, as the growth of RRSP investments are tax-sheltered as long as the funds remain in the plan. Contributors ideally delay the payment of taxes until they reach retirement, when their marginal tax rate is lower.
An RRSP can hold mutual funds, stocks, bonds, ETFs, savings accounts, mortgage loans, income trusts, Guaranteed Investment Certificates (GICs), foreign currency, and labour sponsored funds.
Funds can be withdrawn from an RRSP at any time. Withdrawals will be added to your taxable income in the year of the withdrawal. There are two exceptions. The government allows contributors to withdrawal up to $25,000 for a down payment on a first home, tax-free. This is known as the Home Buyers’ Plan (HBP). The second exception is the Lifelong Learning Plan (LLP). This involves withdrawing RRSP funds to further your education and training, again tax-free. With the LLP, you are able to withdrawal $10,000 per year, up to a maximum of $20,000. Both plans are considered loans, and therefore must be repaid. For the HBP, you have 15 years to repay the loan. Withdrawals made under the LLP must be repaid within a 10-year period.
The 2018 contribution limit is the lesser of:
- 18% of the earned income on your previous tax return, or
- The annual maximum, as set by the Canada Revenue Agency (CRA). Click here for this year’s maximum RRSP contribution amount.
There is a possibility to contribute more but the excess contributions will incur a penalty. Ask your accountant if you want to learn more.
Maturing your RRSP
At age 71, you must wind up your RRSP account. There are four possible options available to you:
- Withdrawal your RRSP funds and pay tax. In this case, a lump sum withdrawal will be added to your taxable income. It will be taxed at the appropriate marginal tax rate.
- Purchase an annuity. Purchasing an annuity will provide you with consistent cash flows over the life of the annuity. Under this option, taxes will not be paid right away. Instead you will be taxed on your annuity payments as you receive them. There are three types of annuities:
- Term-certain, which is payable to you or your estate for a fixed number of years.
- Single life, which is payable to you as long as you are living.
- Joint and last survivor life, which pays a fixed sum as long as you or your spouse are still living.
- Convert your RRSP to a RRIF.
- Convert locked-in RRSP to a LIF or LRIF.
KPMG: Tax Planning For You and Your Future (2017)