Some Key Things to Know About RRSPs
What is an RRSP and what's different about a self-directed RRSP? Discover how investing in a self-directed RRSP may help you save for retirement and defer tax as you manage multiple investments.
What is an RRSP?
An RRSP is a retirement savings plan that is registered with the Canada Revenue Agency (CRA) and offered through an online brokerage company, bank or other financial institution. RRSPs were created by the government to encourage Canadian taxpayers to save money for retirement.
What does an RRSP do?
An RRSP provides a way for Canadian residents who pay income taxes in Canada to save for retirement and defer tax.
When is the RRSP deadline?
March 1, 2021 is the deadline for contributing to your RRSP for the 2020 taxation year. If you miss the RRSP deadline, your contributions in 2021 will be counted towards the 2021 taxation year.
What is a self-directed RRSP?
Both an ordinary RRSP and a self-directed RRSP can help you become financially prepared for retirement. However, a self-directed RRSP is different from an ordinary RRSP in important ways:
- A self-directed RRSP can provide more investment freedom and control.
- With some self-directed RRSP accounts, such as a self-directed RRSP from TD Direct Investing, you can hold many different investment types under one plan – including a mix of stocks, options, mutual funds, GICs, and other fixed income products – and trade on markets that include TSX, NASDAQ, and NYSE. An ordinary RRSP typically offers a limited number of investment types.
How does an RRSP work?
- The amount you contribute to your RRSP is deductible from your taxable income.
- For as long as you keep funds in your RRSP, you won’t be taxed on the growth / earnings on them.
- If you make a withdrawal from your RRSP, the withdrawn amount will be counted as income for tax purposes in the year it is withdrawn.
Other things to know about RRSPs
Have you ever wondered about what the RRSP contribution limit is, what happens to your RRSP contribution room if you don't use it, or how to withdraw funds from your RRSP?
RRSP contribution limit
The annual RRSP contribution limit is 18% of the “earned income” you reported on the previous year's tax return up to a maximum dollar limit, subject to any pension adjustments. Your RRSP contribution limit is the lesser of the two.
The maximum dollar contribution limit for 2020 is $27,230. The maximum dollar contribution limit for 2021 is $27,830. The maximum amount you can contribute is also sometimes referred to as the RRSP contribution room.
What happens to your unused RRSP contribution room?
If you don't use your entire RRSP contribution room in any year, your unused room is carried over to future years. Unused RRSP contribution room is accumulated each year, building from one year to the next.
RRSP withdrawals can occur at any time, including at retirement. No later than the end of the year you turn 71, your RRSP must be converted to a permitted form of retirement income, one of which can be a Registered Retirement Income Fund (RRIF).
While there may be many reasons to withdraw funds early from your RRSP, if you do, there are facts you should know:
- The amount you withdraw from your RRSP before retirement (except for withdrawals under the RSP Home Buyers' Plan or the Lifelong Learning Plan) will count as income for tax purposes.
- Withholding tax will be charged.
What is RRSP withholding tax?
Your financial institution will withhold the federal and provincial tax when you withdraw funds from your RRSP.
- Between 5% to 30% may be withheld, with the rate depending on the amount withdrawn and your place of residence.
- For Canadian residents, the actual tax you pay will be adjusted when you file your tax return.
Converting your RRSP to a RRIF
A popular form of retirement income to convert an RRSP to is a Registered Retirement Income Fund (RRIF). As its name implies, the purpose of a RRIF is to provide retirement income. Under RRIF regulations, a percentage of your RRIF must be withdrawn each year.
When money is withdrawn from a RRIF at a time when you may have little or no other sources of income, you may be in a lower tax bracket than during the period that you were making contributions to your RRSP.
RSP Home Buyers' Plan
If you are a resident of Canada with an RRSP and are planning to purchase your first home to use as your principal residence, you can withdraw up to $35,000 from your RRSP tax-free, subject to eligibility and conditions. Your RRSP withdrawal under the RSP Home Buyers' Plan (HBP) can be from different RRSPs that you own.
- Funds that you withdraw under the HBP must be contributions that have been in your RRSP for at least 90 days.
- You must receive the withdrawals within one calendar year.
- Locked-in RRSP funds from a former employer's pension plan are not eligible.
A Home Buyers' Plan withdrawal must be paid back to your RRSP within 15 years. You must start paying the withdrawal back in the year following the withdrawal.
Lifelong Learning Plan
The Lifelong Learning Plan (LLP) is a program that allows you to withdraw RRSP money to fund your education without paying tax, subject to eligibility and conditions.
- You can withdraw up to $10,000 annually.
- The maximum available to withdraw under the LLP is $20,000.
- You must pay it back to your RRSP within 10 years.
The Lifelong Learning Plan can be used for you or your spouse but it cannot be used for your children.
What is a Group RRSP?
- A Group RRSP is a group registered retirement savings plan that your employer sponsors. Employers typically design group RRSPs to encourage employees to save for retirement, often adding matching contributions to add incentive.
- Contributions made by you or the employer are tax-deductible.
What is a spousal RRSP?
- A spousal RRSP is a retirement savings vehicle that helps to save for your spouse or common-law partner’s retirement. It allows you to contribute money to your spouse or common-law partner's registered retirement savings plan, up to your personal contribution limit.
- This is often done with the objective of evenly splitting the retirement income between a couple to reduce the tax burden at retirement.
- You can continue to contribute to a spousal plan until the end of the year your spouse turns 71.
What happens to an RRSP at death?
- When someone with an RRSP dies, the full value of their RRSP must be included in income for the year of their death.
- If a beneficiary has been named, the fair market value of all property in the RRSP would be paid to the beneficiary.
- Where certain conditions are met, a qualifying beneficiary, such as a spouse, may be eligible to transfer the amount to a registered plan of their own on a tax-deferred basis.
Many Canadians may not have saved enough for retirement. Here are 5 reasons why making an RRSP contribution in 2020-21 may be more important than ever.