Are RRSPs Worth It?
With February well on its way, many Canadians are looking at ways to minimize their tax bills. Tax savings for Canadians are few and far between, but one of the most appealing methods to save on income taxes is through an investment in an Registered Retirement Savings Plan (RRSP) .
There are many people that are still confused about what an RRSP is. I’ve heard comments from people such as “I don’t want to buy an RRSP because I’m afraid that I’ll lose everything if the stock market crashes”. So, just to be clear, an RRSP is NOT an investment. Rather, it is a name for a type of investment that is specifically for your retirement. It is akin to calling your bank account a “chequing” or “savings” account.
The benefit of an RRSP is that it reduces your taxable income and, in effect, saves you the income taxes at your highest marginal rate. For example, if you are single, between 20 and 55, live in BC and are earning $60,000 per year, your income tax bill will be around $11,055. If you contribute $1,200 per year to an RRSP, your tax bill will be reduced to $ 10,700…. a savings of
$355. The effect is even more apparent for higher income earners. For example, if you earn $100,000 then you’d save $459. If you earn $25,000, then you’d save $279.
So, what’s the catch? Well, you have to pay income taxes on the money that you withdraw unless you withdraw it for education or first-time home purchase.
If you are interested in seeing how much money you will save by purchasing an RRSP at your individual income level, there is a handy income tax calculator at http://www.taxtips.ca/calculators/taxcalculator.htm
Final word: Contributing to an RRSP may not be the best alternative for your specific situation. Sometimes it may be more efficient to pay down a mortgage or save in a Tax-Free Savings Account. I would recommend talking with an investment/retirement specialist at your local bank (they usually offer free advice to account holders and are not solely driven by commissions). Or, if you have specific questions, you can post them as a reply and I will give you my take on the situation and then you can seek a second opinion.
I actually intend to book mark this specific blog post, “Are RRSPs Worth It?
| LEADING LEDGERS” on my very own webpage. Do you really mind if perhaps I actuallydo it?
Many thanks ,Adriana
Thank you for the comment Adriana. And yes, please feel free to share my post (I’d appreciate it if you include the link to my website).
I’m in my late 20’s and I’ve been paying only a small amount into my RRSP every month. It feels futile because at this point in my life because I simply can’t put contribute more into the RRSP. I’m wondering if I’d be better off investing into something else rather than an RRSP, such as direct investing into the markets (e.g. silver). Also, because I only contribute a small amount, I don’t see much in way of tax savings come income tax time. So basically, I’m asking, is an RRSP is worth having if you’re only contributing very small amounts when you can afford to?
What do you think?
Thanks in advance.
Thank you for your comment PH. Registered Retirement Savings Plans can hold all forms of investments. For example, you can make RRSP contributions to savings plans, term deposits, stock purchases, bond purchases, mutual funds….well, basically any type of investment can be designated as an RRSP if it qualifies under CRA rules.
Your question is not a simple one to answer. Investing of any sort (whether into an RRSP or not) requires an overall look at your current financial situation. RSPs are a bad alternative for people that are living paycheque to paycheque because they will often be forced through life-circumstances to withdraw from the RSP funds to cover living costs. RSPs are meant to be funds that are tucked away and untouched for long periods of time.
For a person in their 20s earning between $25,000 and $40,000 per year, I would consider the following savings plan:
1. Put away 5% to 10% of your money to a savings account (non RRSP) and do that until you have at least one months'(preferably three) worth of living costs saved up. This would be your “emergency fund”. A Tax-Free savings account is a good place for this.
2. Have monthly contributions of $100 per month taken directly off of your paycheque and put into an RRSP account. You should consult a financial advisor to review your specific situation, risk tolerance, and goals but generally you want to have a mix of equity growth and income growth, with the emphasis being on equity growth while you are in your 20s-40s. As you get older, you should shift the investments more towards income growth.
3. If you have other debt (like credit cards or a mortgage) then you should attempt to pay that down as quickly as possible. Pay off credit cards first since the interest is so high.
4. At the end of the year, you will have a $ 1,200 RSP contribution. This will save you approximately $ 240 in taxes (depends greatly on your income). You should use that portion of the refund to pay down debt (credit card or mortgage)
If you started at age 24 and planned to retire at age 65, and if this was the only retirement savings plan that you followed, and if your investments averaged 5% per year (which is modest growth), your RRSP plan would have over $ 160,000 in it. IF you manage to get 7% return on investment, then that number jumps to over $ 280,000. And if you manage to get annual returns of 10%, your RSP plan would have almost $ 700,000!
Everyone’s circumstances are different and it is worthwhile seeking out some professional advice. But, from my perspective, RRSPs are always a good choice when considering an overall savings plan.