RRSP Myth #2

If the first RRSP myth (see last Tuesday’s blog) is all about not knowing the difference between RRSPs and the investments that need to come with, the second of the big myths in RRSP Land is the idea that you have to claim your RRSP deduction right away.

Ask a Spurt whether a young’un should be taking advantage of an RRSP and you’re likely get the answer, “No.” Why? Cos Spurts site the fact that young’uns won’t get a real tax break because they’re not making enough money to make that deduction pay off. So Myth #2 gets in the way of young people who aren’t yet making a ton of money starting down the road to savings. Since they believe they have to claim the deduction immediately, and they’re in a low tax bracket, they don’t see the point in using an RRSP.

While many people do take the deduction for their RRSP contribution from the get-go, there’s no rule that says you must. In fact, holding off makes sense when you’ll end up getting more money back from the Tax Man by delaying your deduction gratification. So if you’re just starting out and earning not-so-much, don’t bother claiming the deduction… save ‘em up until you’re in a higher tax bracket when you’ll get a bigger bang for your buck.

For goodness sake, don’t skip using an RRSP because you think you have to eat the whole cookie at once. It’s much easier to save a little every year – take nibbles of your cookie – and then claim the deduction when it’ll do the most good. Instead of saving up your contribution room, save up your deductions. You’ll be saving and you’ll be planning for a tax windfall down the road.

Life changes are another reason to pause and think… Think…THINK…Take the case of a woman who goes off on maternity leave in the middle of the year. Since her income is dramatically reduced for that year, her marginal tax rate will also be lower. Claiming the deduction for her RRSP would mean frittering away a perfectly good deduction on a low-income year. Better to hold the deduction for a year when her taxable income is back up. Then, even though her RRSP contribution limit would be less (based on the previous year’s earned income, which may have been smaller because she was on mat leave), giving her little room to maneuver when trying to minimize her taxes, her undeducted contribution from the previous year will come in very handy.

Whether you’re having a baby, just starting off in your career, taking a year off to get an MBA or planning a sabbatical, knowing you can delay claiming your deduction without losing it means you can plan to make those RRSP contributions work even harder in terms of the deduction you’ll eventually receive. They also eliminate the excuse, “What’s the point, I don’t pay that much tax now anyway.”

On Thursday: Myths #3 & #4

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Gail Vaz-Oxlade

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21 Responses to “RRSP Myth #2”

  1. We, for awhile, did what was affordable to us, and that was using the quick tax program to determine how much we could put in to get that much of a refund back. Painless. And it was better than nothing. Then, as we got slightly more comfortable financially, we would take the refund and throw it into the girls’ RESPs. My husband’s income is a bit unpredictable. It used to be we had to prepare for lay-offs. Now, he could be making insane amounts of money with over time. We are, in fact, a little concerned with how much he made last year and how much he may owe. We had taken a lot of his “extra” income and paid down loans and added to Resps, and I’m not sure if his contributions to his rrsps will offset those taxes. It’s been hard to predict whether to use the deductions from year to year, but always did because we are probably pessimists. Now those deductions would have really come in handy, but we have no regrets.

  2. Used to max out my RRSP every year without fail. Now the first $5500 goes into the TFSA, which is a real game changer, and then the RRSP.

  3. This is one of those I had NO IDEA about when I was younger! Back when I had lots of contribution room from not contributing for the first 5 years of working full time, but my income was still relatively low, I started to try and put as much as possible into my RSP account.

    Now that my income is considerably higher, I do not have that room, mostly because I contribute to a company defined pension that the pension adjustment eats up a lot of my contribution room. Thankfully we know also have the TSFA!

  4. Great points Gail! I never thought of doing that when I was 18. How many years can you hold off on deducting your RRSP?

  5. Thanks for this, Gail! This is very timely advice for me. I am just starting out my career and am looking into different RRSP investment options, but like you mentioned, it is not worth me claiming the deduction yet.

    I would love to hear more of your tips on how to save on taxes- not only with RRSP savings, but in general. I think there are a lot of tips and tricks out there that aren’t widely known, but are highly useful.

  6. I have an RRSP. I use my deductions right away even though we do not make a lot of money. Since we claimed we were common-law, the tax-man says we make too much money as a couple (even though as two single people living together we do not make a lot of money according to the tax man).

    The main reason I opened an RRSP is for the tax deductions and first time home buyer’s plan. I want to use it for both as well as save for retirement.

    I really did not know you could save up your deductions. I am going to pass this along to all my friends so they can know!

    Thanks Gail.

  7. All I can think about is eating a cookie…. mmmmmm cookie

    I think the picture shows one with a nice dusting of sugar….

    mmmm cookie

    Seriously, I wish someone had mentioned that to me… I could use all the RSP deductions I could get…. but I maximize my RSP each year… although it usually takes a loan.

    In two years, I’ve calculated that I will be able to save up my RSP contribution throughout the year and will not need a loan…. that’s going to be an awesome feeling!

  8. Kat, why don’t you set up a per-authorized payment plan for you RRSP contributions. An automatic monthly/bi-weekly payment that comes out of your account automatically. Most of my clients make their RRSP contributions this way they don’t have to come up with a big lump sum at the RRSP deadline.

  9. avatar Christine Says:
    January 8, 2013 at 1:16 pm

    Excellent advice! Too many people don’t know this basic information

  10. Total RRSP deduction novice here: what is an RRSP deduction? I fall into the “because we make so little, we don’t contribute” camp, but I do maximize my TFSA every year…

  11. This is super-smart! Although I knew that you could make contributions that wouldn’t appear on the current year’s return, I never thought to intentionally save the deduction for later for specific reasons. Great article, Gail!

  12. Gail,

    Can you give a little follow up on exactly how you carry forward your deduction for an RRSP contribution to another year? Do you just save this year’s slip to use another year, or is the additional paperwork?

  13. @DOTER- Similar to a TFSA, all RRSP contributions are tax-sheltered. So, as you probably know, you don’t get taxed on any interest or gains from investments that are held within an RRSP.

    When you contribute to an RRSP the government will give you a tax refund because it is assumed that you have made the contribution from money that has already been taxed (ie, income). Thus, if you are in a low tax bracket, you won’t get as big a deduction than if you were to carry forward that deduction to a point in time when you are making more money and are in a higher tax bracket. If you want to carry forward the deduction I don’t know exactly how it is done…speaking to a tax accountant would give you an answer for sure.

  14. @ Doter – further to Andie’s note – the growth in a TFSA or RSP is tax free. In an RSP, if you contribute say $500 you get to deduct $500 from your income (which is the basis for what you have to pay in taxes). But when you take money out of the RSP, that all gets taxed. Versus with a TFSA, you don’t get to deduct the money you put in a TFSa from your income, but you also don’t get taxed when you take it out – since you were already taxed “on the way in.”

    Many studies show that lower income Canadians are far better off maxing out a TFSA and then looking at rsp contributions as long as they are thinking ahead.

  15. I’m a bit confused. Are you saying that you should hold off contributing to those years when it would make more sense or are you saying that you can contribute each year and use some or none of the contribution as a deduction in the year the contribution is made?

    My spouse has never used her RRSP room and has 30,000 room. If I were to give her 20,000 to put in her RRSP this year, while her income is under 20,000, can I then claim it as a deduction five years from now when the cash investments I have in her name start hitting the 32 and 39% brackets?

    My contribution room is all gone every year, but I’d like to shelter her RRSP growth yet still reap the bigger tax benefit down the road.

  16. I just finished Money Rules and this was one of my favourite rules I never knew. Makes so much sense though!

  17. Can you have more than one rsp? Can you back contribute from the first income tax return?

  18. For younger investors I recommend that they utilize the TFSA 1st and depending upon future income they can move funds into their RRSP. There a couple of reasons for this.

    1) If someone needs to withdraw the funds in case of emergency or even for a planned event an RRSP withdrawal has many limitations. If it is a regular withdrawal you lose that original RRSP room permanently and do not get the space back when you withdraw. With a planned withdrawal under the Home Buyer’s Program or Life Long Learning Program you have a time limit when you must start paying back and a timeframe as to when it must be all payed back. If you have taken out $20000 for a home purchase that works out to $1333.33 that is required to be paid back annually (after 2 year grace period) and that does NOT count as a contribution when you most likely could benefit from it.

    2) Depends on what your income is now, what it will likely be in the future and what it will be in retirement. Now this is very difficult to predict but lower income earners will benefit much more significantly from the TFSA then an RRSP. The same goes for the those with defined benefit pensions (government employees pretty much!). Because their income in retirement will include CPP, OAS, pension funds their income is less likely to significantly dip in retirement and therefore RRSP/RRIF withdrawals could be taxed at the same tax bracket the funds went in generating no benefit.

    Using the TFSA to fund your RRSP contributions allows you to maximize your RRSP when your income is the highest and the TFSA room becomes available the again January 1st of the next year so you can still max it out as well!

  19. avatar Elizabeth Says:
    January 9, 2013 at 8:53 am

    I’m confused… I thought you could only carry your RRSP deduction forward a year? (That’s what my accountant told me.) Saving your contribution room is a separate strategy.

    Am I mistaken? How many years in the future can you claim your RRSP contribution for a deduction?

  20. Wow lots of questions!!

    You can carry foward your unclaimed RRSP deductions until you are in a situation where you can longer claim that deduction ei: when you turn 65 or 70, i think?

    Ive carried mine foward for many years and used to do this regulary when i was a student with little or no taxable income.

    To carry foward the deductions, enter the information onto Schedule 7 of what was purchased, for that tax year (including ones purchased in the first 60 days of the current year) and on the line that states the ampunt of the deduction enter the amount you want to claim or enter zero if you want to claim nothing.

    The amount you have carried foward wil show on you Notice of Assessment taht will come from the CRA when you income tax return has been filed.

    If you dont contribute any thing to a RRSP you contributions limits are carried foward unitl you no longer qualify to make rrsp contribtuions.

    And yes, you can purchase RRSPs now when your income is low and claim them when your income and taxes will be higher. Or give your spouse money to buy RRSPs and then carry them foward till she/he can claim them whan thier income is higher.

  21. That’s some great information Arshes! Thanks!

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