The RRSP (Registered Retirement Savings Plan) contribution limit is the maximum amount you're allowed to contribute to your RRSP each year. The government sets this limit, and it changes from year to year.
For the 2021 tax year, your RRSP contribution limit is the lower of 18% of your earned income, or $27,830. However, any contributions to an employer group RRSP will be calculated in your limit. You must make the contributions within 60 days after the year ends. This means your 2021 contributions are due March 1, 2022. For the 2022 tax year, the limit will also be the lower of 18% of your income, or $29,210.
If you don't contribute the total amount to your RRSP each year, you can carry forward the unused contribution room to future years. This means that you can contribute more in the coming years if you have unused contribution room from previous years. However, there are fees for overcontribution. A $2000 overcontribution buffer means you will not be charged for excess contributions in this window. Contributions in this buffer can't be included in tax deductions, and there is no fee. If you exceed the limit, there is a 1% monthly fee.
If one spouse has a higher income than the other, they may want to contribute to a spousal RRSP. This allows the higher-income spouse to benefit from the tax deduction on their contributions. The spousal RRSP contribution limit is the same as the regular contribution limit. This means that you can contribute up to 18% of your income, or $27,830 (for the 2021 tax year), whichever is less.
To contribute to a spousal RRSP, you must have contribution room in your account, and your spouse must also have contribution room in their account. You can't contribute more than your spouse's contribution limit.
It's generally advised for you to prioritize TFSA contributions if you are before your peak earning years. Individuals in their 20s and 30s should invest in a TFSA over an RRSP because they'll pay income taxes now while their income is lower, then not need to pay taxes on withdrawals when their income is higher. However, the TFSA contribution limit is minor; in 2021, it was only $6,000 compared to $27,830 for the RRSP. If you are young and have maxed out your TFSA contribution room, RRSP contributions are a great next step.
Focusing on RRSP contributions is typically better for those in their peak earning years. This is because contributions lower your taxable income, resulting in less income tax paid during your highest-earning years. However, you will need to pay income tax on withdrawals. This is why it's best to save RRSP withdrawals for retirement when your income tax is lower, and withdrawals won't launch you into a higher tax bracket.
Although TFSA contributions are advised for younger individuals, there are some exceptions. The RRSP home buyers' plan allows you to save up for mortgage down payment quickly. This is because you receive income tax credits for your RRSP contributions, which can be used as additional down payment savings.
The program works by allowing you to withdraw up to $70,000 per couple ($35,000 per individual) from your RRSP to contribute to your mortgage down payment. The withdrawals are tax-free but must be paid back to your RRSP within 15-17 years.
You can only participate in the program if you haven't owned a home that you occupied as your primary residence within the past four years. You must intend to occupy the new home as your principal residence within one year after buying it.
You may withdraw from your RRSP before retirement but will be subject to withholding taxes. Typically, retired Canadians convert their RRSP to an RRIF (Registered Retirement Income Fund) at retirement. This tax-free transaction allows you to withdraw your contributions without withholding taxes. However, after switching to an RRIF, you can no longer make contributions and must withdraw a minimum amount each year. Additionally, you must pay income taxes on withdrawals.
You must switch to an RRIF before the end of the year you turn 71. However, the change can happen as early as the year you turn 55. Although it's generally not advised to switch to an RRIF early. This is because you'll no longer be eligible to make contributions and could run out of money in retirement.
If you choose to withdraw from your RRSP before converting to an RRIF, there will be withholding taxes. Additionally, you will not get this contribution room back.
There are two less popular options instead of converting your RRSP into an RRIF:
As mentioned previously, not only does withdrawing early from your RRSP result in income tax, you must also pay withholding tax. Your bank is required to withhold this money from you and immediately pay it to the CRA. The withholding amount doesn’t use a bracket system. This means you will pay the specified tax rate on your whole withdrawal. For example, if you withdraw $10,000 in Ontario, you’ll need to pay 20% on the total amount and 10% on the first $5,000. If your bank catches you making multiple smaller withdrawals to avoid a higher tax rate, they may calculate your smaller withdrawals as one large one.
The withholding tax varies depending on how much you withdraw. For most of Canada, the tax is:
|Withdrawal Amount||Tax Rate|
|$0 to $5,000||10%|
|$5,001 to $15,000||20%|
However, Quebec has a lower withholding tax:
|Withdrawal Amount||Tax Rate|
|$0 to $5,000||5%|
|$5,001 to $15,000||10%|
Above the withholding tax, your withdrawals will be included with your income tax calculation. Depending on what you have invested in, there may also be a selling fee. If you are in a pinch and need cash, then a Home Equity Line of Credit (HELOC) is a much cheaper option for you. Always talk with your financial advisor before deciding to withdraw from your RRSP.
RRSPs are one of the best ways to invest money for retirement. When you contribute, your savings will grow tax-free until you withdraw them at a later time. Additionally, you benefit from lowering your income tax when you contribute. When you’re enjoying the golden years with a lower personal income, you won't need to worry about higher income taxes on those withdrawals.