By Adrian Mastracci, KCM Wealth
Special to the Financial Independence Hub
Understanding the RRSP regime makes it easier to stickhandle your retirement marathon. This workhorse has been delivering on retirements since its introduction in 1957.
It really fits two groups of investors like a glove.
Those without employer pension plans and the self-employed.
Some investors still shun RRSP deposits but three solid reasons to pursue RRSP accumulations stand out for me:
• Long-term, tax deferred investment growth.
• Future withdrawals, ideally at lower tax rates.
• Contributions provide immediate tax savings.
Stay focused on how the RRSP dovetails into your total game plan.
The power of compounding really delivers.
Your RRSP mission is three-fold:
• Keep it simple.
• Treat it as a building block.
• The journey lasts a lifetime.
I summarize six vital “back to basics” RRSP areas for your review:
1.) Setting saving targets
Many families are concerned about how much they can realistically save for retirement.
Assume you begin saving at age 30, 40 or 50 and have no other retirement assets.
Here are some annual saving targets to reach $500,000 by age 65 (figures rounded):
|Annual returns to your age 65||Annual saving targets starting at:|
|Age 30||Age 40||Age 50|
Say you are age 40, you need to save $10,500/year to age 65 with 5% returns.
That saving target reduces to $7,900/year to your age 65 with 7% returns.
If your aim is to accumulate $250,000, divide the above annual saving targets by two.
For the $1,000,000 goal, multiply the above saving targets by two.
Waiting to start your retirement saving journey is costly.
Starting early allows you time to recover from investing losses.
2.) Your 2015 RRSP limit
Your 2015 RRSP limit is 18% of your 2014 “earned income”, to a maximum of $24,930.
This amount is reduced by your pension adjustment from your 2014 employment slip.
Your allowable RRSP contribution room includes carry-forward amounts from previous years. RRSP deposits must be made by February 29, 2016 to be deducted in your 2015 income tax filing.
The CRA notice of assessment (NOA) from your 2014 tax filing calculates your 2015 RRSP room. Note that the allowable $2,000 over-contribution amount is not included in your NOA room.
Beware if your NOA indicates you have unused RRSP contributions at bottom of that page.
It means you’ve made RRSP deposits that have not yet been deducted.
My table illustrates the progression of annual RRSP limits:
Earned Income Required*
$132,300 in 2012
$134,800 in 2013
$138,500 in 2014
$140,900 in 2015
$144,500 in 2016
* Figures rounded
3.) Sensible RRSP strategies
A must strategy is to treat the RRSP as an integral part of your total game plan, not in isolation. Become familiar with how the RRSP fits your goals and objectives.
A retirement projection is a great tool to start with. It estimates savings injections, necessary capital and investment returns for your family.
RRSP deposits can be made to your account, spousal, or combination of both.
A family can also make all deposits to one spouse and later switch to the other.
Spousal RRSPs play a key role in equalizing a family’s retirement income.
Especially, if one spouse will be in a low, or lower, tax bracket during retirement.
One family goal is to achieve similar taxation for each spouse during retirement.
Splitting of income that qualifies for the $2,000 pension income deduction also helps.
You don’t have to make RRSP deposits every year.
Unused RRSP room can be carried forward until funds are available.
You can also make the allowable RRSP deposit and elect to deduct part or all in a future year. Be careful not to double count and create an over contribution exceeding $2,000.
Deposits can be made in cash or “in kind.”
However, be aware of the “deemed disposition” rules for “in-kind” contributions.
4.) My RRSP investing advice
First, design and implement a broadly diversified investment plan suitable for you.
Coordinate your RRSP investing approach with the total portfolio.
Never place tax provisions ahead of sensible investment strategies.
If investments don’t make sense without tax considerations, look elsewhere.
Investment income earned in RRSP accounts is tax deferred until withdrawn.
All funds withdrawn from an RRSP are fully taxable, like salary.
“Location” of investments in your various accounts is an important consideration.
Some investments, like stocks, are often better owned outside the RRSP.
There is no preferential tax treatment of Canadian dividends, gains or losses.
Further, the dividend tax credit is lost as it cannot be used by the RRSP.
Where possible, interest bearing investments are more suited for RRSPs.
Be fully aware of the investing risks incurred in your RRSP.
Remember that capital losses can’t be used inside RRSPs.
Capital gains are not taxed favourably in RRSPs.
5.) Planning 2016 and beyond
RRSP room is calculated based on remuneration from your previous calendar year.
Earned income of $140,900 received in calendar 2015 provides maximum RRSP room of $25,370 for 2016.
RRSP contributions for 2016 can be made until March 01, 2017.
There is no reason to wait until the last minute where funds are available.
Your 2015 Notice of Assessment will outline 2016 RRSP room.
Send form T1213 to CRA to reduce payroll taxes after your 2016 RRSP deposit is made.
Business owners and self-employed are wise to start planning their 2016 “earned income”.
Arranging 2016 remuneration of $144,500 delivers the 2017 RRSP limit of $26,010.
If turning age 71 during 2016, you must convert the RRSP by December 31, likely to a RRIF.
Hence, you can begin planning the RRSP conversion early.
RRSP conversions require all RRSP deposits to be made by December 31, unless there is a younger spouse.
Lastly, making RRSP deposits early in the year achieves higher investment growth for your retirement.
6.) RRSP conversion pointers
RRSP conversion choices include the venerable RRIF, cashing out the RRSP and a variety of annuities. The RRIF is most popular because it provides considerable flexibility.
The annuity route has the least income flexibility, while cashing out has no appeal.
Investors may have other annuities via CPP, OAS, employer pensions and Social Security.
RRSP withdrawals can be made as and when required until age 71.
RRSPs can also be converted in part or in full before age 71.
An election allows the minimum RRIF payments based on the age of the younger spouse.
RRIF income qualifies for the $2,000 pension income credit and pension splitting provisions.
Eligible investments for the RRIF are the same as those for the RRSP.
Investment strategy need not change if it accommodates the RRIF withdrawals.
Upon death, RRSP/RRIF accounts can be passed onto the surviving spouse.
Ultimately, estate values can be preserved for beneficiaries named in the wills.
Each family situation can be customized, year by year.
You can choose withdrawals above the minimum, frequency of withdrawals and investments.
RRSPs are one vital cornerstone of the retirement puzzle.
Treat yours with special care, especially if you’re near or in retirement.
For me, the venerable RRSP is not to be overlooked.
Adrian Mastracci, MBA, is president and portfolio manager for Vancouver-based KCM Wealth Management Inc., specializing in designing and stewarding retirement portfolios.