The Beginner’s Guide To RRSPs

Beginner's Guide To RRSPs

More than sixty years after the federal government introduced the Registered Retirement Savings Plan as a vehicle to save for the future, RRSPs still remain one of the cornerstones of retirement planning for Canadians.

In fact, as employer pension plans become increasingly rare, the ability to save inside an RRSP over the course of a career can often make or break your retirement.

Here’s a beginner’s guide to RRSPs:

The deadline to make RRSP contributions for the 2022 tax year is March 1, 2023.

Anyone living in Canada who has earned income can and should file a tax return to start building RRSP contribution room. Canadian taxpayers can contribute to their RRSP until December 31st of the year he or she turns 71.

Contribution room is based on 18% of your earned income from the previous year, up to a maximum contribution limit of $29,210 for the 2022 tax year, and $30,780 for the 2023 tax year. Don’t worry if you’re not able to use up your entire RRSP contribution room in a given year – unused contribution room can be carried-forward indefinitely.

Keep an eye on over-contributions, however, as the taxman levies a stiff 1% penalty per month for contributions that exceed your deduction limit. The good news is that the government built in a safeguard against possible errors and so you can over-contribute a cumulative lifetime total of $2,000 to your RRSP without incurring a penalty tax.

Find out your RRSP deduction limit on your latest notice of assessment or online using CRA’s My Account service.

You can claim a tax deduction for the amount you contribute to your RRSP each year, which reduces your taxable income. However, just because you made an RRSP contribution doesn’t mean you have to claim the deduction in that tax year. It might make sense to wait until you are in a higher tax bracket to claim the deduction.

When should you contribute to an RRSP?

When your employer offers a matching program: Some companies offer to match their employees’ RRSP contributions, often adding between 25 cents and $1.50 for every dollar put into the plan. Sadly, many Canadians fail to take advantage of this “free” gift from their employers – giving up a guaranteed 25-to-150% return on their contributions.

When your income is higher now than it’s expected to be in retirement: RRSPs are meant to work as a tax-deferral strategy, meaning you get a tax-deduction on your contributions today and your investments grow tax-free until it’s time to withdraw the funds in retirement, a time when you’ll hopefully be taxed at a lower rate. So contributing to your RRSP makes more sense during your high-income working years rather than when you’re just starting out in an entry-level position.

RelatedA sensible RRSP vs. TFSA comparison

A good rule of thumb: Consider what is going to benefit you the most from a tax perspective.

When you want to take advantage of the Home Buyers’ Plan: First-time homebuyers can withdraw up to $35,000 from their RRSP tax free to put towards a down payment on a home. Would-be buyers can also team up with their spouse or partner to each withdraw $35,000 when they purchase a home together. The withdrawals must be paid back over a period of 15 years – if not, the amount is added to your taxable income for the year.

*Note, watch for the new First Home Savings Account coming later this year, an account that allows you to contribute up to $8,000 per year to a lifetime limit of $40,000. Contributions are tax deductible, and withdrawals are tax free if used to purchase a qualified home.

When you want to increase your Canada Child Benefit payments: An RRSP contribution reduces your net income, a measure which is used to determine how much parents will receive from the Canada Child Benefit program. These tax-free benefits are reduced or phased-out at certain income thresholds. Young families should consider making an RRSP contribution to lower their adjusted net family income and get more from the Canada Child Benefit program.

Beware of raiding your RRSP early

Unless it’s a dire emergency then it’s generally a bad idea to withdraw from your RRSP before you retire. For starters, you have to report the amount you take out as income on your tax return. Not to mention you won’t get back the contribution room that you originally used.

To make matters worse, your financial institution will hold back taxes – 10% on withdrawals under $5,000, 20% on withdrawals between $5,000 and $15,000, and 30% on withdrawals greater than $15,000 – and pay it directly to the government on your behalf. That means if you take out $20,000 from your RRSP, you’ll not only end up with just $14,000 but you’ll have to add $20,000 to your income at tax time.

What kind of investments can you hold inside your RRSP?

A common misconception is that you “buy RRSPs” when in fact RRSPs are simply a type of account with some tax-saving attributes. It acts as a container in which to hold all types of instruments, such as a savings account, GICs, stocks, bonds, REITs, and gold, to name a few. You can even hold your mortgage inside your RRSP.

Related: 5 common myths about RRSPs

If you hold investments such as cash, bonds, and GICs then it can make sense to keep them sheltered inside an RRSP because interest income is taxed at a higher rate than capital gains and dividends.

A good approach, depending on your age and stage, is the tried-and-true balanced portfolio consisting of 60% stocks and 40% bonds. You can achieve this mix with one balanced mutual fund, one balanced ETF, or a couple of low cost index funds or exchange-traded funds (ETFs).

Final Thoughts

Contributing to an RRSP is simply one of the best ways for Canadians to save for retirement and reduce their tax burden. The RRSP advantage is further heightened when you consider employer-matching programs, access to the Home Buyers’ Plan, and potentially increasing your Canada Child Benefit payments.

The idea is to contribute to your RRSP in your higher income earning years and withdraw from it in retirement, when income is typically lower. Your contributions, invested sensibly, will grow in a tax-deferred manner until retirement, when withdrawals are fully taxable.

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  1. Amit on January 13, 2023 at 12:09 pm

    What a perfectly well-written article! Thanks, Rob. I withdrew via HBP in 2014, and then the limit was $25,000. I was advised of the 15-year payback time by my tax consultant. However, I chose to replenish my RRSP HBP loan in the next two years by cutting back on discretionary spending to allow compounding to work in my favour.

    • Frito on January 15, 2023 at 12:07 am

      Hi Robb! Lots of good info in this issue. I’m curious about one semi unrelated item tho…

      The breakdown of tax withholding on withdrawals has remained unchanged for years and years. 10% up to $5k, 20% up to 15k and 30% anything over $15k. In contrast, the ceiling on the lowest tax bracket has crept up thousands over the years to $50k+ for 2022 (15% federal). How is it that withdrawing a lump of $20k from your rrsp should result in a 30% withholding tax? I understand that you likely have other income sources but 30% seems quite excessive. You’d think it wouldn’t be unreasonable to adjust the maximums a bit – 10% to 10k 20% to 20k and 30% for everything else. Maybe a campaign needs to get presented to CRA!

      • James R on January 15, 2023 at 5:44 am

        I suspect a significant challenge is not with CRA but with rolling out changes like this to all the institutions who would have to update their systems to be compliant.

        I like the idea but also think that for many, the existing percentages are insufficient while for others they are excessive. Striking a balance is not an easy task.

        • Art L on January 15, 2023 at 9:11 am

          In todays computer world this type of change would be a paramter file or called dictionary change. It would be a manager responsibility and take 5 minutes to change from say a rate of 30% to 20% and then reviewed by a co worker and locked in. No complex computer work here.
          As for the percentges taken yes I agree how one sees the rate as insuffiicent or excessive. With a federal rate of 15% and say 10%(Alberta) the total of 25% is close to the required 30% but still the difference of 5% could be up to $750 and very important to have today instead of waiting to file and getting a tax refund. And this assumes one has other income that can cover all basic tax credits. If one can apply tax credits like the TD1 personal exemption then yes the witholding tax will seem excessive on this RRSP withdrawl.

          • James R on January 15, 2023 at 2:17 pm

            Art, I agree with everything you said but I have had a couple of dealings with banks on making some similarly minor changes and I was amazed at how difficult such seemingly innocuous changes are. It is in part because the banks don’t operate on one solitary system but are a vast network of systems often as a result of all of the acquisitions they have done over the years.

            It would be nice if they could do what is reasonable to expect but my experience has indicated otherwise.

      • Robb Engen on January 15, 2023 at 12:55 pm

        Hi Frito, I think the withholding taxes are meant to be punitive to discourage early withdrawals (U.S. has similar rules for withdrawing from a 401k before age 59.5). Adjusting the brackets might seem reasonable but might also be seen as encouraging the very thing they’re wanting to discourage.

  2. Lily on January 15, 2023 at 7:28 am

    Hi Robb, My husband has a lower income than I and we will both likely retire next year. I have been contributing to a spousal RRSP’s at two different institutions which we plan to draw down on as we push out taking CPP for as long as possible. So I am wondering if I contribute to one of them for the 2022 tax year can I withdraw from the other spousal account next year when we retire with no penalty?

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