Registered Retirement Savings Plans (RRSPs)

A Registered Retirement Savings Plan (RRSP), is an investment account which allows you to defer paying tax on the money you put into the account. When you make a contribution to your RRSP, you get a tax deduction for the amount contributed for the current taxation year. (You also have the first 60 days in a new year to make your contribution for last tax year).

For example, if you contributed $1000 in the current year, you would receive a tax deduction of $1000 when you complete your taxes next year. This deduction reduces your taxable income. The higher your tax rate, the higher your tax savings will be. The amount you can contribute is based on your previous year’s income. The federal government provides this figure for you each year, after you file your taxes, in a notice of assessment. If you cannot contribute your full available amount in any one year, the extra amount not contributed carries over into future years.

You may withdraw your investments from an RRSP, but that amount will be included in your taxable income when you next file your taxes. The government also stipulates that companies who issue RRSPs are required to withhold some of those taxes at the time of the withdrawal. These funds are forwarded to the Canada Revenue Agency on your behalf and will offset the taxes you will eventually owe on the withdrawal. (You are not subject to double taxation.)

Withholding Taxes on RRSP Withdrawals
Withdrawal Amount % Tax Withheld
From $0 to $5,000 10% (5% in Québec)
From $5,001 to $15,000 20% (10% in Québec)
$15,001+ 30% (15% in Québec)

 

RRSPs can continue to accumulate your contributions until the year you turn 71. Your RRSP must then be cashed out, or converted into income, like a Registered Retirement Income Fund (RRIF).

Tax-Free Savings Accounts (TFSAs)

Tax-Free Savings Accounts (TSFAs) are new in Canada, having been introduced in the 2008 Federal Budget. They became effective January 1, 2009. The TFSA is a new registered plan that allows Canadians over the age of 18 to save up to $5,500 each year, with all of the growth being tax-free on withdrawal. This means if you withdraw $10,000 fro your TFSA, you do not need to pay any taxes on it.

The TFSA follows in the footsteps of the Tax-Exempt Special Savings Account, which has been available in the UK since 1990 (and replaced by Individual Savings Accounts in 1999), and the Roth Investment Retirement Account in the US in 1997.

Contributions to a TFSA are not tax-deductible (unlike RRSPs), however they do grow on a tax-free basis (similar to RRSPs). The big advantage to the TFSA is that you can withdraw funds from your TFSA and never pay any tax on the growth. Furthermore, if you cannot make your full contribution in any given year, all of your unused contribution room carries forward with you indefinitely. Any money you withdraw in a year can be replaced the following year (i.e. withdrawal amounts are added to your total unused TFSA contribution room next year).

The contribution limit of $5,000 each year is indexed to inflation (in $500 increments). The amount increased for the first time in 2013, so you can now contribute $5500 per year.

Many people think the TFSA has been misnamed, since the name Tax-Free Savings Account gives the (false) impression that you can only invest in a savings account. However, any investments that you can hold in an RRSP are eligible for a TFSA, such as mutual funds, bonds and GICs. This makes the plan more of a Tax-Free Investment Account, rather than a savings account.

Locked-in Retirement Accounts (LIRAs)

The Locked-in Retirement Account (LIRA) and similar Locked-in Retirement Savings Plan (LRSP - available in British Columbia only) are needed when you transfer funds out of your pension plan. If you have a company pension and leave the company before retirement, you are typically given a few choices for handling your funds. You can move it to a pension with your new employer, leave it in your employer’s plan and collect whatever you have available on retirement, or move it into a locked-in account. Locked-in accounts are managed like RRSPs, meaning you have multiple investment options to choose from, such as stocks and bonds.

Unlike an RRSP, the funds in a LIRA cannot be cashed out early, as they are designated specifically for retirement. They are meant to be converted into income when you choose to retire, and can be converted to a Life Income Fund (LIF), Locked-in Retirement Income Fund (LRIF), a Prescribed Retirement Income Fund (PRIF - Saskatchewan and Manitoba only), or a Life Annuity from an insurance company.

The general rules of your LIRA are determined by the pension legislation your employee falls under. The federal government and each province have their own sets of rules. Your LIRA may have slightly different options available, depending on your plan’s jurisdiction.

Some jurisdictions allow for unlocking of LIRAs or LIFs under special circumstances such as:

  • small balances
  • becoming a non-resident of Canada
  • shortened life expectancy
  • financial hardship
  • court enforcement orders (spousal or child support)

There are also options in many provinces to allow you to "unlock" all or part of your locked-in account outside of the circumstances mentioned. It is important to note that "unlocking" these plans is not the same as cashing them out. Although you can take them in cash (making the withdrawal fully taxable that year), you can also transfer them to sheltered plans and withdraw the funds as you would a RRIF.

Registered Retirement income Funds (RRIFs)

A Registered Retirement Income Fund (RRIF) is the most common option people choose when they must turn thir RRSP savings into retirement income. A simplified way to look at RRIFs is to think of them as the opposite of RRSPs. With RRSPs you are making deposits to save up for retirement. With RRIFs, you take the money back out to provide you with retirement income.

Although the Tax Act currently states that you must convert your RRSPs into RRIFs by the end of the year in which you turn 71, you are allowed to convert some or all, of your RRSPs any time you wish. Once an RRSP has been converted to an RRIF, you are required to withdraw a minimum amount, beginning in the year after you convert. (If you convert your RRSPs into RRIFs this year because you are now 71, you don’t need to take any money out until the next calendar year.) However, you can choose to start taking the funds immediately if you wish.

To get an idea of what your RRIF minimum withdrawal will be based on the funds currently in your RRSP, you can work out the math yourself (take 90 minus your age and then divide the result into 1), or you can try this handy calculator. For example, if you are 50 today, you would take 90 - 50 (your age) = 40. Then take 1 divided by 40 = 0.025. If you multiply that result by 100, you would get 2.5% as your minimum withdrawal amount of your RRIF.

One thing to keep in mind when taking minimum payments from your RRIF is that the Income Tax Act does not require taxes to be withheld on your minimum payment. This could mean a bit of a tax hit when you file your taxes next year, because all money withdrawn from your RRIF is taxable in the year you get it back. (Remember that RRSPs and RRIFs are tax deferral plans, not tax avoidance plans. You get a tax break when you put the money into the RRSP, but have to pay tax when you eventually take the funds back out.)

Life Income Funds (LIFs)

A life income fund, or LIF, is similar to a RRIF. However, LIFs are only for converted locked-in plans such as LIRAs. LIFs are a maturity option for locked-in funds and are meant to provide you with retirement income.

While RRIFs only have a minimum withdrawal amount each year, LIFs are subject to both an annual minimum withdrawal and an annual maximum withdrawal. The maximum payment stipulation is meant to ensure you have funds for life and cannot deplete the plan too early. A life annuity-based formula is used to calculate these amounts for you. Once you reach the age of 80, the funds in your LIF must be used to purchase a life annuity.

Registered Education Savings Plans (RESPs)

Registered Education Savings Plans, or RESPs, are designed to help you save for your child’s post-secondary education. Steep costs for post-secondary education may seem insurmountable, but proper planning will help ensure your child’s educational future.

The federal government created RESPs to help you with education planning. When you open an RESP, the growth in the plan is tax sheltered until you withdraw the funds. When your child begins to use the RESP to pay for school, the withdrawals are taxed in their names, not yours. Your child will likely be in a lower tax bracket than you, lowering the overall tax burden for your family.

The federal government also created the Canada Education Savings Grant (CESG) to help you save. Your children are eligible to receive the grant up to and including the year they turn 17. Everyone is eligible, as this grant is not geared to income. When you contribute to an RESP, the government provides a grant up to 20% of your contribution for the year. The maximum grant per year is $500 per year until your child turns 17.  To receive this full grant, you would need to deposit $2500 per year to the plan.

To open an RESP all that your child needs is a Social Insurance Number (SIN). Getting started is that simple.

Non-Registered Accounts

Along with RRSPs and TFSAs, you can also hold non-registered investment accounts. These accounts receive no special tax treatment, but also have no penalties for withdrawal. You can choose to hold a variety of funds in a non-registered plan, including investment funds, stocks, bonds and GICs. The interest, dividends and capital gains you receive from these funds are taxable for the current tax year.

Why would you choose a non-registered plan? Maybe you have maximized your RRSP and TFSA contributions and you still have funds to invest. You may want an emergency account with easy access or you may want a non-registered plan when you know you will be making frequent deposits and withdrawals.