You may have more than you think
“I don’t have any money!”
Sound familiar? That’s the reason most often cited for not contributing to a Registered Retirement Savings Plan. And it does seem like a problem, especially if you’re living paycheque to paycheque (and plenty of us are – yes, even the apparently well-heeled). But an RRSP is an essential part of long-term retirement planning. (Have you checked out what the “maximum” Canada Pension Plan payment is these days?)
There are ways and means to make RRSP contributions…without digging around under sofa cushions for loose change on Feb. 29. Here are a few ideas.
This is the easiest way to ensure you make RRSP contributions through the year. Arrange with your bank or your employer (if they’ve set up a group RRSP) to automatically deposit funds to your RRSP with every paycheque. You set the amount. The rest happens “invisibly,” just like any other withholding amount from your pay. Except in this case, the “withholding” remains in your hands as an RRSP contribution. And contributing through the year gets your money invested and compounding that much sooner.
If you received a severance payment in 2013 (and you haven’t already blown it on something), use it to make an RRSP contribution. That way, you’ll shelter some or all of the severance amount from income tax.
You may have received a bequest during the year. If it’s a substantial sum, use at least some of it as an RRSP contribution. Bequests themselves are generally not taxable as income, but any investment income from that bequest is. So put some of it into an RRSP, where investment growth is tax-sheltered until your RRSP matures.
Contributions in kind
If you have qualifying investments outside an RRSP in a non-registered account, consider transferring some of them to an RRSP. Their current value will be deemed to be the contribution amount for tax purposes. Any RRSP-eligible investment will do, including stocks traded on listed exchanges, GICs, Canada Savings Bonds, government bonds, mutual funds, ETFs, and so on. If you make this type of contribution, keep in mind that there will be what’s called a “deemed sale” of the asset, and 50% of any capital gain may be taxed. However, the upside is that you’ll get a tax deduction on 100% of your contribution. To make contributions in kind, you’ll need a brokerage account or have a self-directed RRSP that lets you pick and choose your own investments.
To borrow or not borrow? That is the question
You’ll sometime see ads suggesting you borrow to make an RRSP contribution. After all, you’ll get a tax deduction on the contribution, you’ll be able to pay down the loan with your refund, and your investment could well earn more than the interest on the loan. This might seem an easy answer to the contribution conundrum, but there are a few “cons” to go with the “pros.”
The biggest downside to borrowing your RRSP contribution is that you are levering your investment. It makes no sense to put borrowed money into an safe, interest-bearing investment like a GIC, because it earns less than the cost of your loan. But if you invest in equity investments, either directly or through a mutual fund or ETF, you run the risk of magnifying any losses that may occur. In other words, the value of your investment may end up being less than the value of your loan – never a good situation!
Another minus is that an “RRSP loan” is still a loan – a debt with interest payable. And you must pay the lender (usually your friendly neighborhood bank) the money when it’s due, regardless of what happens to your RRSP investment or anything else. People who jump into RRSP loans without thinking about the effect on their cash flow are usually in for a rude awakening.
Speak with your financial advisor or qualified planner about more complex RRSP contribution ideas, such as contributions in kind or RRSP loans.
The sooner, the better
If you don’t have the spare cash to make a contribution eligible for a 2013 tax deduction, you’ll have to add it to your “contribution room” (i.e., accumulated allowable RRSP contributions that you did not make in previous years) and carry it forward to a future year. Contribution room is listed on your annual tax assessment notice from Canada Revenue Agency.
The main thing, though, is to start contributing now, even if it’s your very first time!
© 2014 by Robyn K. Thompson. All rights reserved. Reproduction without permission is prohibited.