What is RRSP?
RRSP stands for Registered Retirement Savings Plan. It is a legal trust registered with the CRA. RRSP provides Canadian citizens an option to save money for their retirement.
RRSP in Detail
RRSP is not an investment in itself. RRSP is only an account that holds other investments, just like a brokerage account. So if you're putting, say, $10,000 in RRSP, it will use this sum for investing in certain permitted assets. Some of these assets are equities, bonds, contracts, unit trusts, shares of small business corporations, mutual funds, guaranteed income trusts (GICs), mortgage loans, foreign currency, etc.
Benefits of RRSP
RRSP offers three main benefits.
- Tax savings: If you make a contribution to RRSP, that amount is deducted from your taxable income, which results in tax savings. For example, if you earn $40,000 and you make a contribution of $10,000 to RRSP, you need to pay tax only on $30,000.
- Withdrawal at lower tax rates: Technically, if you contribute to RRSP, you are delaying your tax payment till your retirement. And at that time, you will be taxed at a lower marginal tax rate as compared to your working years.
- Tax benefit for gains: There are no taxes on any gains made on RRSP investments upon maturity. These gains could be capital gains, interest, dividends, or foreign exchange profits.
RRSP Contribution Eligibility, Limit and Timing
Anybody Canadian taxpayer under the age of 69 can make a contribution to RRSP. The contribution limit is calculated by the CRA on the basis of past year's returns. This limit changes with changes in income. The good part is that you are allowed to carry forward this contribution room. For example, if you are allowed to invest $5,000 in a year, and you invest only $2,000, you can carry forward the contributing room of $3,000 to next year.
For 2014, the maximum RRSP contribution limit is $24,270. So, you will not get a tax benefit for contributions more than $24,270. RRSP contributions can be made anytime throughout the year before March 1st. For 2014, you can make a contribution anytime before March 1st, 2015.
The Canadian government offers the delay in payment of taxes to promote retirement savings. RRSP helps the government in reducing the burden of the Canadian Pension Plan.
Under certain circumstances, you can contribute towards your spouse's RRSP, and vice versa. If managed well, spousal contribution can lead to decent savings on a couple's combined tax outgo.
Withdrawal of RRSP
If you want to withdraw the RRSP before retirement, you will have to pay withholding tax in the range of 10-30% in all provinces, except Quebec (where the withholding tax is between 5-15%). There are only two exceptions where you can withdraw the amount without paying a withholding tax. That is either if you want buy a house under certain conditions or if you want to invest in your education.
How does RRSP affect your tax?
Any contribution to RRSP is deducted straightaway from your income. You can calculate tax savings gained through RRSP contributions on the tax calculator (select advanced tax calculator options for RRSP).
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