Rhonda's Financial Blog

3 Common RRSP Myths and Misconceptions

Thursday, March 1st, 2012

Having a good financial strategy is an essential part of preparing for a comfortable retirement. Contributing to a Registered Retirement Savings Plan (RRSP) should be part of the plan. Unfortunately, there are a number of RRSP myths and misconceptions which can get in the way of taxpayers getting the maximum benefit from these long-term savings accounts. How many of these have you heard of, and are they interfering with your retirement plans?

Myth #1: I can only contribute to an RRSP in the year I earned the income.

The amount that someone can contribute to an RRSP is based on his or her previous year’s income, so your earned income in 2010 is what your 2011 RRSP contribution is based on. However, you also have up until February 29, 2012 to make your 2011 RRSP contribution. This idea can be a bit confusing.

Dianne earned income in 2010 and has an RRSP contribution limit of $20,000 for 2011. If she contributed $10,000 to her plan in 2011 and another $10,000 between January 1-February 29, 2012, she has the option of claiming the entire $20,000 on her 2011 tax return or using the latter $10,000 on her 2012 income tax return.

Myth #2: RRSP contributions can’t be carried forward.

Many taxpayers do not make their maximum allowable RRSP contribution each year. It can be difficult to find the funds to save for retirement when paying day-to-day bills and expenses must be the priority. The federal government has changed the contribution rules so that taxpayers don’t lose their unused RRSP contribution limit. It can be carried forward and used later on, when the taxpayer has more money to put toward retirement.

If Sue has a $20,000 RRSP limit in a certain year and only contributes $5,000 into her plan, the other $15,000 is carried forward and added to her contribution room the next year. Sue would be able to contribute up to $35,000 into her RRSP the following year ($15,000 carried forward and $20,000 in new contribution room).

There may be times when taking the RRSP deduction may not make sense, even if you made a contribution in a particular year. If you know your income is going to be higher in the future, you can hang on to your RRSP deduction and use it then.

Myth #3: Contributing to a spousal RRSP means I can deduct twice as much each year.  

Spousal RRSPs can be a bit tricky to understand, and it would seem to make sense that contributing to someone else’s plan means that you can use their annual contribution limit as well as your own. Unfortunately, this is not the case and no matter whether your put money into your plan or your spouse’s RRSP, you can only use your contribution room to do so.

If Kate has a RRSP contribution limit of $20,000 for the year, she can put this amount into her own plan or make a contribution to her husband Bill’s RRSP account. Either way, Kate gets an income tax deduction for the amount of her contribution. If Bill earned money in the previous year, he could also make an RRSP contribution to his plan.

Now that you see how these 3 common RRSP myths and misconceptions have been debunked, make a point of getting tax your advice from a qualified financial advisor who can provide advice about your personal situation.

Spousal RRSPs: an Investment Tool for a Comfortable Retirement

Tuesday, February 21st, 2012

A spousal RRSP is a savings vehicle where one spouse makes a contribution to a plan opened in the other spouse’s name. It allows couples to split income in retirement so that each person has a similar amount of income. This strategy helps to lower the income tax the couple pays in later years.

When Spousal RRSPs Makes Sense

A spousal RRSP makes sense in situations where one person earns significantly more than the other. It can be considered in a situation where one spouse is earning and the other one is at home caring for children. Spousal RRSPs can also be used in situations where both spouses are working but there is a significant difference in their respective incomes.

In a situation where both spouses approximately the same amount, a spousal plan is not the best option. Instead, each spouse should be making contributions to a personal plan in accordance with his or her RRSP limit. The amount that each person can contribute to a RRSP is listed on the Notice of Assessment issued by the Canada Revenue Agency (CRA) each year.

Opening a Spousal RRSP Account

When a couple decides to open a spousal RRSP, the account is opened in the lower-earning spouse’s name. The spouse with the higher income would make contributions to the plan, up to his or allowable RRSP limit each year. The contributing spouse would also receive the tax deduction for the amount deposited into the plan.

If the lower-income spouse has an existing RRSP account, it can be used for this purpose. However, once the higher-income spouse makes a contribution to the lower earner’s plan, the entire amount held in the investment account is considered to be a spousal RRSP.

The spouse whose name appears on the plan is its legal owner. He or she will be responsible for the taxes payable on funds withdrawn from the plan, subject to the attribution rules.

Income Tax Act Attribution Rules

The Income Tax Act includes attribution rules to ensure that taxes payable on assets transferred from one person to another are collected appropriately. In the case of a spousal RRSP, the rules require that withdrawals made from a plan in the same year the contribution was made or the previous two calendar years is treated as income for the contributing spouse.

The funds deposited into a spousal RRSP should be treated as a long-term (minimum of three years) investment. If any or all the funds are withdrawn before that time, the higher-earning spouse will lose the tax advantage of contributing to the plan.

There may be situations where having more than one RRSP account makes sense. If an investor wants to have the flexibility to withdraw funds from an RRSP before retirement if necessary, a second plan would offer the choice of taking the money from the one which would be taxed at the lower rate.

Contributing to a spousal RRSP can be an effective way to split retirement income and pay less in taxes. To find out whether this is makes good financial sense for your personal situation, consult a financial advisor.

Can You Make an RRSP Contribution After Age 71 if You Are Earning an Income?

Wednesday, February 15th, 2012

If you are turning 71 this year, you may be fully retired and enjoying your golden years pursuing activities which you didn’t have time for while working. You may still be in the workforce on a full or part-time basis, and reaping the benefit of the additional cash flow.

RRSP Decision Time

Since you will be blowing out 71 candles on your birthday cake, your financial advisor will let you know that you need to make some decisions about your RRSP (Registered Retirement Savings Plan). One of the choices, which likely doesn’t make a lot of sense for most people, is to withdraw the full amount in cash and pay tax on it as a lump sum. You also have the option of transferring the funds from your RRSP directly into an annuity or a Registered Retirement Income Fund (RRIF). Another choice is to divide your RRSP funds into two or more of these options.

At this point in your life, you may be receiving income from government pensions, a company pension plan, personal investments, your RRSP, as well as from your employment. As a result of these multiple sources of income, you may be pushed into a higher tax bracket, resulting in either a partial or complete claw-back of your Old Age Security (OAS) benefit.

Is there something you can do to remedy this situation? Can you contribute to your RRSP if you are still working?

RRSP Contribution Strategy

One thing that works in your favor is that you have to the end of the year in which you turned 71 to convert your RRSP into cash or another financial product. Based on the amount you earned, you may have RRSP contribution room for 2013. Consider making that contribution in December of 2012 so that it can be credited to your RRSP while the plan is still open.

You will be charged a penalty of one percent per month on any RRSP contributions which are over the allowable limit of $2,000. The good news is that your tax savings should be much higher than the penalty you would have to pay.

Example of RRSP Contribution at Age 71

Here’s an example of how you can take advantage of the RRSP deduction in your 71st year:

Sue is a psychotherapist who was still working in the year she turned 71. Her RRSP limit for 2013 is $20,000 but since she is supposed to close her plan at the end of 2012 and convert it into another vehicle, how can she make the most of her contribution limit?

She can contribute $20,000 to her RRSP in December of 2012, even though this means she will have overcontributed to her plan. Under existing CCRA rules, Sue would have to pay a one percent penalty for each month her contribution was over the limit of $2,000. In this instance, the one percent penalty on the over-contribution of $18,000 ($20,000-$2,000) would only be calculated for December and would work out to $180.00. The penalty would drop off as of January 2013, since Sue would have a contribution limit of $20,000 based on her prior year’s earnings.

Assuming Sue gets 40 percent of her RRSP contribution back as a tax rebate, she would have to “spend” $180 to get a refund of $8,000. This definitely works out to her benefit.

Another way that Sue can continue to make RRSP contributions after she turns 71 is if her spouse is younger than she is. In that instance, she can make a contribution to a spousal RRSP and deduct it on her income tax return. She can also take advantage of the same over-contribution strategy in December of the year her spouse turns 71.

Before you plan to use this strategy to contribute to your RRSP after you turn 71, speak to a financial advisor. He or she may be able to suggest other moneysaving options, such as splitting the income received from eligible pensions, annuities or RRIFs with your spouse.

Back to Basics: A Reminder of RRSP Musts

Tuesday, January 31st, 2012

To play any game, it is important to know the rules and how they may affect the outcome or result of the game. Not to suggest that planning for retirement is a game, but knowing how RRSP rules can affect your retirement planning is very important. Below are a few of the “must knows” for your RRSP planning.

1. Maximize your contribution

The more you put away the more you will have. It is important to know the maximum allowable limit for your financial situation. Currently for 2011, you can contribute 18% of your prior year’s earned income up to a maximum of $22,450 less your pension adjustment (PA) and your past service pension adjustment (PSPA). Remember also that carry forwards of unused contributions from 1991 onward can also be contributed.

2. Contribute Today

The sooner you contribute, the sooner your savings start growing for your retirement. The compounding of interest returns can make a big difference on your RRSP balance over time.

3. Spousal RRSPs

Contributions can be made to a spousal RRSP that will allow income splitting at retirement which in turn will reduce the amount of tax that you will pay. Contributions are limited to your personal limit.

4. No More Foreign Content Limit

• 30% foreign content limit in RRSPs and registered pension plans is now a thing of the past.
• Canadian investors now have the option to invest up to 100% of their retirement plans into foreign securities, without penalty.
• Opportunities for money managers to seek out the best investment opportunities wherever they exist is wonderful news for Canadians – provides the opportunity for greater diversity and more attractive risk-adjusted returns.

5. Consolidation

Consolidating your assets leads to more efficient asset management as well as reduced costs. You should discuss with your advisor why consolidation would be right for you

Alert! The RRSP Deadline is Approaching!

Wednesday, January 25th, 2012

RRSP Contribution Deadline: February 29, 2012

With the deadline fast approaching, it’s important to remember that the maximum contribution limit for 2011 is $22,450.

RRSP Contribution Room:

RRSP contribution room is based on prior year’s earned income. It is the lesser of 18% of earned income or the maximum contribution limit. If you are a member of a Registered Pension Plan or Deferred Profit Sharing plan, your contribution room will be reduced by a pension adjustment.

Not sure on how much you can contribute?

The limit can be found on your Notice of Assessment that Canada Revenue Agency (CRA) sends after processing a tax return. It also includes any unused room.
The Tax Information Phone Systems (TIPS) also gives current contribution limit – Toll Free Number 1-800-267-6999. SIN and previous year’s tax return must be handy.
In addition, the new “My Account” online service on the CRA website can be used to check your RRSP deduction limit for 2010. My Account lets you get personalized information about your RRSP contributions and deduction limits as well as information about payments, installments, outstanding balances, statements of accounts and much more.

For more information, please contact me at 604-661-1532 or rhonda_sherwood (at) scotiamcleod.com.