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The basics of RRSP investing

November 2, 2022
min read

Here are some RRSP basics that should give you an excellent start to understanding RRSPs and why RRSP contributions can be such an essential and powerful savings tool.

What is an RRSP?

A Registered Retirement Savings Plan (RRSP) is a tool that helps Canadians save for retirement. An RRSP can be a great way to save money, but it can be especially helpful for those in a high tax bracket because you contribute using your pre-tax income. So when you contribute to an RRSP, the amount you pay in income taxes decreases. Keep reading, and we’ll explain the benefits of an RRSP to help you decide if it’s the right tool.

Here are some RRSP basics that should give you a good start to understanding why RRSP contributions can be such an important and powerful savings tool:

The Binder Analogy
Think of an RRSP account as a binder. In the binder analogy, each piece of paper in the binder represents your different investments.

Unlike a chequing account that holds only cash, you can put almost any type of investment into an RRSP, such as mutual funds, stocks, bonds, ETFs, or GICs.

The binder analogy is a favourite when describing RRSPs because it helps explain the protection RRSPs can give. The binder cover (the RRSP) protects the pieces of paper (your investments) until you want to take them out of the binder. Contributions made to an RRSP are tax deductible, meaning that you can potentially reduce the income taxes you owe by contributing. You don’t pay taxes until you withdraw an amount, so your retirement savings can grow faster over the long term.

“It’s fantastic that so many Canadians are aware of the RRSP, but unfortunately, there are still a lot of misunderstandings about what it is and how it works,” says David MacRae, Director, Wealth and Advisory Services at Cambrian Credit Union. “It’s something I’d often find myself explaining to new investors, and even some folks that aren’t necessarily new, as they aren’t fully aware of all the details involved.”

“If you have an RRSP, but you’re not sure what’s in the binder when you make your contribution take a bit of time first to call your advisor and get more information from them on what you’ve invested in and why.”

RRSP Investment Products

You don’t invest in an RRSP – the RRSP is simply an account type and plan registration (hence special tax treatment). What you do invest in is a registered savings account, mutual funds, stocks, bonds, ETFs or GICs. These are the products that will earn you a return.

Registering those investments as RRSPs gives you a tax deduction in the current tax year and allows for withdrawals in retirement years.

What’s so powerful about the RRSP is that you save money by sheltering your contributed amount and any interest you earn in the registered product from income tax until you withdraw it. This contribution adds up to huge compounding interest over the years!

Benefits of an RRSP

Here are some of the benefits of contributing to your RRSP.

You’re Saving for your Retirement

Money put into your RRSP is generally not touched until retirement (unless you take advantage of certain programs, such as the First-Time Home Buyer Program). So every time you contribute to your RRSP, you’re making it easier to achieve your long-term financial goals. The earlier you start contributing, the longer your money has to grow.

There’s a common saying used when discussing retirement saving: When it comes to retirement, the best time to plant a tree was yesterday, but the next best time is today. So, if you haven’t started saving for retirement, it’s never too late and there’s no time like the present.  

You’ll Reduce your Taxes Owed

An RRSP is what’s known as a tax-deferred investment. Contributions you make to your RRSP reduce the income taxes you pay because you’re taking home less income. Making regular contributions during your peak earning years will lower your tax bill while working.

Your RRSP funds are taxed as income when you withdraw money. However, since you’ll no longer be earning a salary in retirement, you are likely to be in a lower tax bracket when you withdraw the funds in your RRSP, reducing the amount of tax you will pay on your retirement income.

It’s important not to think of your tax refund as “free money” but rather as an opportunity to invest into your RRSP, your TFSA, or to pay down some debt. This way, you’re taking full advantage of the benefits of contributing to your RRSP.

Contributions and Withdrawals

There is no minimum contribution age for RRSP. However, you must have earned income reported to Canada Revenue Agency (CRA).

You may contribute to your RRSP until December 31 of the year in which you reach age 71. Your allowable annual RRSP contribution is the lower of:

  • 18% of your earned income from the previous year, or
  • The maximum annual contribution limit for the tax year ($31,560 for 2024), or
  • The remaining limit after any company pension plan contributions.

You can find the amount you can contribute to your RRSP on the Notice of Assessment sent to you by the Canada Revenue Agency each year.

RRSP Withdrawal Rules

You can withdraw from your RRSP anytime; however, withdrawals from your RRSP will be considered income and subject to income tax. Typically, in retirement, RRSP holders withdraw funds on an automatic frequency (for example, monthly) to fund their retirement.  You can think if it like paying yourself a salary.  In addition, there are some special withdrawl plans that RRSP holders can take advantage of in certain circumstances:  

Homebuyer’s Plan:

You can withdraw up to $35,000 tax-free to put towards a down payment for purchasing your first home if you meet the CRA’s eligibility requirements.

Lifelong Learning Plan:

You can withdraw up to $10,000 tax-free per calendar year for a maximum of $20,000 to put towards full-time education for yourself or your spouse if you meet CRA’s eligibility requirements.

Cambrian has a team of advisors to help you make informed investment decisions. Contact one of our branches to set up an appointment.

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