Anyone with earned income will have RRSP contribution room, but does that mean you should use it? There has been much discussion these days about whether the RRSP is of benefit at all. After all, you just have to pay the tax when you withdraw from your RRSP later. It is true that a RRSP is a tax deferral vehicle. You will save on your taxes today but you will pay those taxes at some future date. This is a great opportunity for some but it can be detrimental to your Retirement Income plans in other situations.
If you are earning under $11,000 annually (the basic personal amount) it won’t make any sense to contribute to a RRSP and claim the corresponding RRSP deduction. Income tax will not be payable at this level of income, consequently no benefit to the RRSP deduction. An individual who expects to earn a higher level of income in the future could make a contribution and then choose to save the RRSP deduction to use on a future tax return.
As your income increases and becomes subject to tax, you need to decide whether it makes sense to contribute to an RRSP or a TFSA. The general rule is that if your tax bracket today is low and you expect to be in a higher tax bracket later on when the funds are taken out, you’re better off maxing out your TFSA before contributing to an RRSP. If an individual is in their twenties and earning less than $40,000 annually stick with TFSA contributions and save the RRSP room, contribution and deduction for the future, when you’ll be in a higher tax bracket.
If you are a middle to upper income earner, typically in the age range of 30 to 70 years old, the general rule is to maximize RRSP contributions since your tax rate throughout your working years is typically higher than it will be when you retire.
Once you hit 71 years of age you can no longer contribute to your own RRSP. However, you can still contribute to a spousal RRSP if your spouse or partner is 71 or under as long as you have unused RRSP contribution room. This could be the case if you haven’t contributed the maximum allowed during your working years or you continue to generate new contribution room annually from employment or rental income.
How do you know what makes sense for you? The decision to contribute in a particular year should be based on your personal circumstances, including your tax bracket today and your expected tax bracket in the future, specifically, the year of withdrawal. Have a conversation with your Financial Planner to help you make good RRSP decisions.