Time’s Running Out!

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It’s that time of the year again!  The RRSP contribution deadline is coming up next week.  March 3rd is the absolute last day that money can be added to your account to count towards your 2013 tax return.  Unfortunately for the majority of Canadians, contributing to an RRSP account is completely an afterthought after mortgage payments, car payments, vacations and regular living expenses.  This doesn’t mean you shouldn’t be contributing even though others are not.  There are many advantages to contributing to an RRSP, but there are many misconceptions as well.  Whether you contribute or not is entirely your decision, but generally it’s a good thing.

Here are some key things to note about RRSPs that might persuade you to contribute or not.

An RRSP is NOT an investment – That’s right.  Investing in an RRSP does not make you money.  It’s almost like a regular bank account, but with a few extra perks.  Making money depends on what you invest in with your money.

It’s NOT a tax refund – I can’t stress this as much as anything else about the RRSP because it’s not a tax refund, but a tax deferral.  When money is withdrawn from the RRSP, taxes are paid on that amount withdrawn.  You are merely paying taxes at a later date.

You can only put 18% of your income in – The limit is capped based on your yearly gross income.  Though if you have yet to contribute in previous years, the balance carries forward.  You cannot put more than your limit otherwise you pay hefty interest penalties.

Do not spend your tax rebate cheque – Remember when I said it’s not a refund?  That’s because the money you receive back is for taxes paid that went into the RRSP.  If you spend it, then how do you pay your taxes later?  Invest the rebate, make it grow, then you can spend the money you make.

It counts against your OAS – The Old Age Security benefit is a program by the Federal Government of Canada to assist seniors with low income.  If you are planning to milk every last drop out of the government, then be careful how much you have in your RRSP.  Withdrawals of large amounts could make you ineligible to receive OAS.

You can use it for home purchases – After sitting for 90 days in your RRSP, up to $25 000 can be withdrawn to pay for a down payment of a home.  The only caveat is that you have 15 years to repay this back to your RRSP without paying a tax penalty.

You can take the money out before retirement – The RRSP is a great way to supplement your income when your income is low.  Perhaps you are on maternity leave, or going back to school.  Taking money out of your RRSP during this time means that you might be paying in a lower tax bracket than when you contributed.  This is a tax savings!

The money grows tax free – As long as the money is not withdrawn, gains made within an RRSP are completely tax free.  This is a huge benefit because you can use the power of compound interest to really make that money grow!

It’s not better than TFSAs – Sometimes it is, but most times it’s not.  People spend their tax rebate rather than investing it which makes the TFSA a much better choice for investments because people are already starting behind.  TFSAs are limited in contribution room so buying RRSP is still a no brainer.

You don’t have to buy GICs – Any form of investments can be bought in RRSPs.  Mutual funds, stocks, bonds, ETFs and your standard GICs can all be purchased as investment assets

It’s bad when you have pensions – Why is it bad? Simple you still pay taxes on withdrawals.  If you received very little taxes back when you contributed and your pension is based on your last few years of salary, then you might end up paying more taxes on the money withdrawn than you received when contributed because now you’re in a higher tax bracket.  Stick to TFSAs.

Though the RRSP is bad if you plan on being filthy rich when you retire, for the majority of Canadians, they should be piling everything they have into it.  Why is that?  Simple, the majority of Canadians have all their wealth in one asset: the house.  This means that there is very little left over for retirement.  Even scarier, there is very little retirement income that most individuals will make now that most companies don’t have a predefined pension.  This means that for most Canadians, they will be making substantially less in retirement than when they were in their working years.  This makes the argument for RRSPs easier because most people will be moved to a lower tax bracket.

If, on the otherhand, you expect yourself to build up a huge nest egg and retire with more or similar income levels as you now enjoy during your working years, then don’t go crazy on RRSPs.  You might end up with more tax headaches down the road.  Especially if tax rates start to rise.

If you do plan on contributing, make sure you do so before the deadline.  I highly recommend calling the bank and scheduling an appointment as the next few days are expected to be extremely busy for last minute contributors.

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