Angela Iermieri, a financial planner with Desjardins Group, takes a look at some persistent myths about RRSPs and TFSAs.
RRSP and TFSA season is here! Now’s a good time to take a closer look at these investment options, so you can make the right choices for you.
1. An RRSP can only be used for retirement
Wrong. You can also use an RRSP to buy your first home or finance further education. The Home Buyers’ Plan (HBP) helps you buy your first home by allowing you to withdraw up to $35,000 from your RRSP tax-free. The Lifelong Learning Plan (LLP) is a great way for you or your spouse to finance full-time education or training by borrowing up to $20,000 from your RRSP tax-free.
2. A TFSA is just a savings account I can dip into freely
Yes, you can take money out of your TFSA if you need it, but the advantage of a TFSA is that it lets you grow your savings and the income generated without being taxed. Your best bet is to leave your money in the account long enough to generate income.
You have many investment options available for your TFSA. Depending on your investor profile, you can choose the product that’s right for you to grow your money and receive interest income or dividends or generate tax-free capital gains. Any money you withdraw can be reinvested in the TFSA. Make sure you keep a close eye on this, though, so you don’t go over the limit.
3. I’ve made my RRSP contribution—the money’s been invested!
Not exactly. An RRSP is like a piggy bank you contribute to that rewards you with tax deductions. And you can grow that money by choosing an investment that meets your needs, based on your investor profile, risk tolerance and investment period. There are many types of investments available; an advisor can recommend the right ones for you that will help you grow your savings and returns tax-free. Put time on your side.
4. Interest rates are so low, it’s not worth it to open an RRSP
Wrong. The main advantage of RRSPs is that contributions are tax-deductible. You can take this money and invest it in any number of investment products (like guaranteed investment certificates, market-linked guaranteed investments, mutual funds or stocks). You can choose the best products for you and diversify your RRSP portfolio based on your risk tolerance and objectives. The longer your investment horizon, the more investment options you have, and potential returns are often higher. You can grow the money you contributed to your RRSP tax-free until you retire, and also enjoy tax-free savings when you contribute.
5. Having an RRSP is pointless if I have to pay tax on it once I’m retired
Wrong. When you contribute, you get a tax deduction on your current income, which means you’ll pay less tax for that year. And you don’t pay any taxes until you make withdrawals from the RRSP. Generally, your income will be lower than when you made the contributions, so your tax rate will be lower. Most importantly, your money grows tax-free all those years.
As you get closer to retirement, talk to your advisor about reducing your tax impact with a solid RRSP strategy.
6. I’ll lose my old age pension if I take money out of my RRSP when I retire
Yes and no; it depends on your income. Your annual income has to be about $128,000?when you retire in order to lose your old age security (OAS) pension completely. You start to lose a portion of your OAS pension if your net personal income is more than $79,000. If you expect your retirement income to be over that amount or if you’re hesitant to contribute to your RRSP, your advisor can help you develop a retirement plan to determine the best strategy for you.
7. A TFSA is better than an RRSP: you don’t have to pay taxes on withdrawals
Wrong. They each have their advantages. You won’t have to pay any taxes when you make a withdrawal from a TFSA because you didn’t get a tax deduction when you contributed, unlike an RRSP. However, an RRSP is the right choice if you’re looking for tax savings at a higher tax rate than when you retire. TFSAs are better for short- or medium-term goals.
8. TFSAs aren’t available if you’re unemployed
Wrong. Any Canadian 18 and over can contribute to a TFSA, whether they earn income from work, have retirement income, or no income at all. Every year, everyone has the same contribution limit. The 2020 limit is $6,000. If you’ve never contributed, were aged 18 and a Canadian resident in 2009, your cumulative limit is $69,500. If you’ve already contributed and made withdrawals, the withdrawn amounts can be added back to your contribution room and recontributed. But be sure to keep a close eye on your transactions so you don’t go over the limit.
9. You can choose who gets the tax deduction when you contribute to your spouse’s RRSP
Wrong. If you decide to contribute to your spouse’s RRSP, depending on your contribution room, you’ll get the tax deduction. However, the RRSP contributions belong to your spouse, so they’ll be taxed on the withdrawal, if the money stays in their RRSP more than 3 years; otherwise, the amount withdrawn will be added to your income, and you’ll be taxed.
Contributing to your spouse’s RRSP lets you split your incomes more evenly during retirement, meaning you’ll pay less tax. This is what’s known as income splitting.