The fine detail of RRSP contributions and deductions
As you approach retirement, you may be in a bit of a financial conundrum: should you use up your carry forward RRSP contribution room or put the funds into a TFSA (Tax Free Savings Account)?
The following piece investigates why maximum funding of your RRSP may be your best friend in the years after you retire and not just before. Here's a little-known fact: contributions to RRSPs do not have to be deducted in the year that they are made. In fact, they can be claimed at a future date based on your individual tax situation. Let's use an example to make this clear:
Source: Ativa Concept Toolkit
Pictured above in Scenario #1 are the taxes saved on a $10,000 RRSP contribution where taxable income is $100,000. In this case, assuming all else is equal, you would have generated a $3,478 tax refund versus no contribution at all. Remember, contributions only allow you to receive refunds on taxes paid. Stated another way, the contribution lowers the taxable income on which the income tax is owed.
Where this becomes really interesting is when you have a large carry forward balance of unused RRSP contributions and you are getting close to retirement. What should you do? Make only one contribution for the last year before you retire or try to use up as much room as possible? I believe that in most cases, and assuming you have the funds of course, the latter option is the best.
You will continue to receive taxable income in retirement, but your ability to make RRSP contributions vanishes after age 71. So, if you make a large contribution before retirement, you can choose to delay using the full deduction to optimize your tax situation in future years. For example, you could use the deduction to reduce any form of taxable income such as RRIF income, CPP, and OAS.
If you had, say, $50,000 of unused RRSP carry forward room available, and cash for the transaction, you could make the entire contribution in one shot. But you would only use the deduction to maximize the tax benefit in any given year. The rest would be used at a later date. Notice when you compare Scenario #1 to #2, the additional $15,000 of deduction is less tax efficient ($3478/$10000=35% while $7949/25000=32% tax savings).
I clearly acknowledge that I am not a tax professional, and many factors need to be analyzed before calculating the net benefit to you. But with that being stated, I believe that you should be mindful of how you use your RRSP contributions as you approach retirement. After a certain age, this benefit will be gone for ever.
The enclosed article expresses the opinions of writer, Patrick A. Choquette, and not necessarily those of Raymond James Ltd. (“RJL”). Statistics, factual data and other information are from sources believed to be reliable but accuracy cannot be guaranteed. It is furnished on the basis and understanding that Raymond James Ltd. is to be under no liability whatsoever in respect thereof. It is for information purposes only and is not to be construed as an offer or solicitation for the sale or purchase of securities.
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Information in this article is from sources believed to be reliable, however, we cannot represent that it is accurate or complete. It is provided as a general source of information and should not be considered personal investment advice or solicitation to buy or sell securities. The views are those of the author, Patrick Choquette, and not necessarily those of Raymond James Ltd. Investors considering any investment should consult with their Investment Advisor to ensure that it is suitable for the investor’s circumstances and risk tolerance before making any investment decision. Raymond James Ltd. is a Member - Canadian Investor Protection Fund.
