Are you ever too young to contribute to a registered retirement savings plan (RRSP)? The answer is usually no.
Look up age limits in the Canada Revenue Agency (CRA) guide to RRSPs and you’ll find just one: 71. That’s the age when the government requires you to shut down your individual RRSP and begin withdrawing money from it.
- What can you do with your RRSP when you turn 71? Here are your options.
That means all Canadians who haven’t reached 71 – as long as they’ve earned income in the previous tax year and reported it to the CRA on their tax return – can open and contribute to an RRSP.
What is an RRSP and how does it work?
An RRSP is a savings plan under which you can hold a wide range of investments, including:
(Don’t take that to mean you need a complete investment plan before you open your RRSP. A Sun Life Financial advisor can help you pick the right investments for you.)
RRSPs come with two key benefits that can help you meet your short- and long-term savings goals:
- RRSPs provide tax-deferred growth. Money held inside your RRSP grows tax-free until you withdraw it. So, let’s say you withdraw money in your retired years where you’re more likely to be in a lower tax bracket. In this case, you’ll pay less tax than you would if you withdrew funds in your non-retired, working years.
- What happens when you withdraw from your RRSP early? Here are the hidden costs of early RRSP withdrawals.
- RRSPs come with a potential tax deduction. You can deduct RRSP contributions from your income (up to annual limits) when you prepare your yearly tax return. For the 2020 tax year, you can contribute up to 18% of your earned income from 2019, to a maximum of $26,500. For 2020, the maximum is $27,230.
Don’t worry about hitting the maximum every year, though. Your unused contribution room carries forward, beginning once you’ve filed your very first tax return.
Where can you find your RRSP contribution limit?
The CRA keeps you updated on your contribution room in your notice of assessment, which you receive after filing your annual tax return. You can also see your notice of assessment online at the CRA’s “My Account for Individuals” page.
Remember, the money you earned in the previous year is crucial to calculating how much you can contribute to your RRSP for the current tax year. And your yearly RRSP contributions can result in a substantial tax refund that you can use to:
- reinvest in your RRSP,
- pay down debt, or
- invest in another tax-sheltered vehicle such as a tax-free savings account (TFSA).
What if you’ve maxed out your RRSP contributions but still have money you want to invest? Then you may consider contributing to a tax-free savings account (TFSA). A TFSA lets you save money for any purpose without paying taxes on the investment growth. Learn more about how it works and how it can help you grow your money.
Why are RRSPs great for young investors?
If you’re a younger investor, opening an RRSP gives you a few other advantages:
- RRSPs offer the magic of compounding. Let’s say you’re 26 years old and can put just $1,000 in your RRSP in 2021. Fast-forward to 2066, when you’re 71 and must convert your RRSP savings to income. Based on a 5% yearly return, that $1,000 will be worth $8,985. That’s assuming annual compounding and an investment period of 45 years.
- You can use your RRSP to buy your first home. Under the RRSP Home Buyers’ Plan, you can withdraw up to $35,000 from your RRSP to buy or build your first home. This withdrawal is tax-free so long as you pay it back into your RRSP within 15 years, subject to minimum yearly repayments.
- You can use your RRSP to go back to school. Under the RRSP Lifelong Learning Plan, you can withdraw up to $10,000 per year (up to a maximum of $20,000) from your RRSP, to pay for a full-time program (or a part-time program, if you’re disabled). The withdrawal is tax-free as long as you pay it back into your RRSP within 10 years.
How do you choose the right RRSP for you?
Before you head to your financial institution to sign the papers, you’ll want to pick the type of RRSP that’s right for you. This often comes down to whether you’ll be investing on your own or alongside others.
For example, your employer may offer a group RRSP. The benefits of going this route may include:
- matching contributions from your employer (that means free money for you),
- lower management fees on the investments you hold in your RRSP, and
- the ability to make automatic contributions straight from your paycheque.
- Group RRSPs: Why you need to get in on the action
There are also spousal RRSPs. Let’s say you’re married or in a common-law relationship and one of you earns significantly more than the other. The higher earner’s contribution to a spousal RRSP for the lower earner will potentially get a bigger tax deduction than the lower earner would receive. Then in retirement, the lower earner – who will likely still be in a lower tax bracket – can withdraw the cash at that lower tax rate.
Please note that there are various rules and exceptions around withdrawing from spousal RRSPs and calculating the taxable income you and your spouse or common-law partner have to report. You can find detailed information about these rules and exceptions at the CRA’s website.
How do you set up your RRSP?
You may open more than one RRSP. Just remember that your contribution limit remains the same, whether you have one or several RRSPs.
There’s typically no cost to set up these plans: You simply make an appointment with an advisor and fill out the paperwork. (Many advisors now offer to meet Clients virtually due to the COVID-19 pandemic.)
However, you may pay fees on the individual investments you choose for your plan. Mutual funds, for example, will charge management fees. (Note that these are typically taken directly out of the fund’s returns. So you don’t get a physical bill.)
And what if you have a self-directed RRSP, in which you make buy-and-sell decisions yourself? Then you’ll also pay commissions on each transaction you make, just as you would in a non-registered brokerage account.
You and your advisor should review the fees for any investment before you buy.
Choose a beneficiary for your RRSP
Finally, when you’re opening your RRSP, your advisor will ask if you want to name a beneficiary for your RRSP.
If you die, your RRSP can bypass your estate and go directly to your named beneficiary. If you name your spouse as the sole beneficiary, the cash can roll into your spouse’s RRSP tax-free.
(If you’re living in Quebec, please note that you can only name a beneficiary to an RRSP if you’re invested in an insurance product, such as a segregated fund or an insurance GIC.)
Be aware that naming anyone other than a qualified spouse can have serious tax implications. If you name another adult family member who isn’t a qualified beneficiary, for example, the value of your entire RRSP would generally be taxed as regular income in the year of your death.
- Are you saving enough for the future? Find out how much you may need to save with this Retirement savings calculator.
Get professional help from an advisor
Your advisor can help you set up your RRSP and decide what investments to put in it. They can also address any questions or concerns you may have about RRSPs or any other financial product.
- To get started, find an advisor today.
This article is meant to only provide general information. Sun Life Assurance Company of Canada does not provide legal, accounting, taxation, or other professional advice. Please seek advice from a qualified professional, including a thorough examination of your specific legal, accounting and tax situation.