Planning for the future is one of the smartest things you can do. Getting an RRSP is one plan. For those of you who don’t know, RRSP stands for Registered Retirement Savings Plan.
Now before I go any further, you might be thinking, “I’m too young to think about retirement now, so I don’t HAVE to start saving for it.” If you’re not thinking that, maybe you don’t even believe in RRSP’s, haven’t heard of them, or haven’t seriously considered them because you’d rather put all your money towards paying off your debt.
I’m a financial advisor, and I talk to countless people who give me these kinds of explanations. Chances are many of you would give me these kinds of explanations, too.
I’m not saying RRSP’s are the BEST retirement savings vehicle for everyone, but planning for the future/retirement is. And with about two weeks remaining in RRSP season, I’m thinking that now is a great time to discuss it.
An RRSP is supposed to be used to save for retirement (obviously). It’s also extremely useful when you’re saving for a down-payment on your first home under the first-time Home Buyer’s Plan. Anything you contribute towards an RRSP will be deducted from your taxable income, thus reducing the amount of taxes you pay. I don’t know about you, but I don’t know anyone who wants to pay the government more than they have to.
Before I go too far – Here is a RRSP Calculator that’s very helpful. If you’re looking to start saving and this is why you’re here, it’s a helpful tool to see how much you should be putting away.
All of the earnings/gains your investment makes remains tax-sheltered until you withdraw it. When you do make withdrawals, everything is taxed as regular income. At 71, you are no longer able to contribute (I hope you’re all able to retire before then!…if you want) and it will be converted to a Registered Income Fund (RIF) at that time if you haven’t already done so. An RIF follows calculations to determine the minimum you have to withdraw every year based on age and balance remaining.
Deadline and contribution limits
The deadline to contribute for your 2013 tax year is March 3, 2014. Contributions made in the first 60 days of a new year can be allocated to previous year.
Also, you don’t actually have to claim RRSP contributions in the year you make them; you can hold off if you’re not making much taxable income yet. That way, you can save and claim them when you’re making more money and need to reduce the amount of taxes your paying. The maximum amount you can contribute is the lesser of 18% of your earned income.
First Time Home Buyer’s Plan (HBP)
This is a withdrawal option that allows people who are considered first-time home buyers to withdraw up to $25,000 from an RRSP to use towards the purchase of their new home without having to pay taxes on what they’ve withdrawn. They have to re-contribute what they’ve withdrawn in order to avoid paying back taxes on it, but the good news is they don’t have to start re-contributing until the 2nd calendar year after they’ve made the withdrawal and then the amount is split up over 15 years. So, basically, it’s an interest-free loan. It helps you save for retirement and purchase your first home. Sounds pretty good, right?
RRSP or TFSA?
To be honest, I think both are amazing, but sometimes one or both are more appropriate for certain people. A TFSA (Tax Free Savings Account) is a registered account that was introduced in 2009 and allows Canadians over the age of 18 to invest their money and keep the earnings/gains tax-sheltered. You never have to pay tax on anything you withdraw and are limited to a maximum annual contribution (2009-2012 its $5000/year and then 2013 and after it’s $5500/yr), but your contribution limit does accumulate from the year you turned 18. A TFSA is a great vehicle to use for retirement savings if you don’t make much taxable income and/or you won’t in retirement (TFSA withdrawals won’t put any government benefits you might receive in retirement at risk of being clawed back or denied). An RRSP is great to reduce income tax paid, and using a TFSA in compliment is fantastic as it can be used to fund larger purchases you may want to make in retirement (or sooner) without you having to increase the amount of taxes you have to pay that year.
1. The maximum CPP you can receive if you retire at 65 is currently $1,012.50/month (if you take it before 65 it gets reduced). The average Old Age Security amount is $515/month right now. Can you imagine living on just $1,527.50/month?! There’s also talk about these not being around or significantly less when the younger generations retire as the funds will be hard hit with all the baby boomers coming up to retirement.
2. Most people assume they will need a much lower income to survive as they plan on being debt free. I don’t have any statistical facts, but in my 10 years at a bank, I see more and more people approaching or already in retirement still with mortgage debt, car payments, and consumer debt. People are taking on much more debt these days as shown year over year as house hold debt keeps increasing. This will affect the amount required. In 2009 the Statistics Canada reported the average senior couple spent $54,100/yr (using the amounts from CPP and OAS above, they total to $36,660/yr as a couple meaning you’re short $17,440.) Lets also not forget about the increased costs in health and if you require assisted living arrangements.
3. That $17,440 is a small number, and if you’ve invested appropriately (meaning you’re actually investing your money to see growth, not just in cash where inflation is higher than the interest earned) and give yourself a good time horizon before drawing on it, it won’t take much to get to that amount.
4. If you’re REALLY good at math, and want an example, here is one based on my statistics. At my age (29), I want to retire at 60 and assume I have 30 yrs in retirement. I only expect 60% of what the government benefits are today when I’m 65. I will get 7% investment return until retirement and 5% after. I have no savings as of yet. I need $33,000 in today’s dollars (I’ve taken inflation into account) and a pension of $15000/yr that’s not indexed. I will need to put aside about $5700 every year(indexing to inflation every yr). If I had started at 23 I would only have to do $4200/yr. Obviously this assumes that once you are older and making more money you can contribute more then and lower the amount while you’re younger while making less. If the same 23yr old waited to retire at 65 they’d only have to contribute $2300/yr. Don’t forget those contributions will also lower your taxes paid so you technically aren’t having to invest as much, due the tax return you can put towards it.
It really just comes down to the importance of thinking about the future, and planning for it financially to be prepared. There is a lot of information I didn’t cover and everyone’s situation is unique which is why it’s also extremely important that you’re getting good advice from a qualified Financial Advisor (don’t always listen to friends and family in regards to your finances), and that you review your financial plan regularly and especially during life changes. What might have been appropriate or the best option at one point may not be anymore. Scotiabank (where I work) offers FREE financial reviews and 2nd opinions from their qualified Advisors. We work so hard for our money, so let’s ensure it works for us in achieving our goals.
How do you want your retirement/future to look? Start planning!