Or, the things we tend to forget!
- Saving money on your income taxes is a great thing to do.
We have a graduated tax system in Canada—yippee! So, what does that mean? The more money you make the more you pay in taxes (in theory at least). It’s actually a bit more complicated than that so I’ll simplify it as best I can. There are different levels of income taxes payable, for example, the first $10,000 of income (all numbers are approximate) we pay no taxes, on the next $20,000 (all numbers are approximate, trying to keep it from getting boring) we pay 23% and on the next $30,000 (still approximate) we pay 35%. Notice, if you haven’t already, that we are now up to $60,000 of income & paid approximately $14,600 in income taxes. Call me or your tax specialist if you need some help with these numbers.
The really neat thing about RRSP contributions is that they can actually bring you down a level or two, depending on how much you invest. So, not only do you get some tax savings, you could also end up in a lower tax bracket. A double whammy bonus!
- You will probably want to retire sooner than you think.
RRSPs can bridge the gap between when you want to retire and when you’d start collecting your pension. If you’re lucky enough to have a defined benefit pension plan you could get penalized (i.e. have to take a reduction in your pension amount) if you start collecting earlier than a specified date called your Normal Retirement Age (NRA). That penalty can be significant (read the fine print!). If you’ve got some RRSPS, you can use them during the awkward period between retiring and ripening to your Normal Retirement Age.
- You can share your income with your spouse or partner via your RRSPs, it’s called a Spousal RRSP.
Spousal RRSPs are confusing. I don’t think I have ever met anyone who doesn’t work in the field of finance who really understands how they work. So why would you set one up? It goes back to the graduated tax system—it’s better to have two retirement incomes of $40,000 each then to have one person with $60,000 and the other with $20,000. You pay way less in taxes in the first case than in the second.
Here’s the rub—although you can do some income splitting at tax time when you’re retired, not all types of income can be split and that includes your RRSP income (at least until you are 65). The bottom line is—plan now and set up that Spousal RRSP if it will help you out!
In a Spousal RRSP the person with the lower retirement income should be the recipient of the money (otherwise known as the Annuitant) and the person with the current higher income (otherwise known as the “contributor”) gets the tax deduction.
- You can’t move money from your own RRSP to a Spousal RRSP (it’s not allowed) or vice versa (also not allowed) .
This is why it’s good to plan in advance—but it’s not always easy. I’ve been in situations where we’ve completely switched around who is the contributor and who is the recipient (annuitant) as careers have changed, plans have changed and income amounts have changed.
But it can also be exciting! Let’s say you’re feeling particularly loving towards your spouse (Valentine’s Day is coming!) and want to help her get out of the rat race, you can say, “You know what honey? I’m going to stop contributing to my RRSP and set up a Spousal RRSP so buckets of money will grow in your name so you can retire soon!” (In four or five years to be exact.)
Four or five years!? Why? Attribution rules. The Canada Revenue Agency doesn’t just let you do these things willy-nilly.
- You don’t have to wait until you are 72 to take money out of your own RRSPs.
You don’t even need to be retired!
Let’s say you want to take a year off and travel the world. You can take some money out of your RRSPs and away you go! It will count as income for the year you took it out, and you’ll never get that room back again, but if that’s what you want to do then I say… actually, I’m not allowed to say because I don’t know what your situation is, sorry. I do know that David Chilton cashed out his RRSPs to publish his book, The Wealthy Barber and we all know how that turned out!