RSP (Retirement Savings Plan) refers to any investments or income stream to fund retirement. On the other hand, RRSP (Registered Retirement Savings Plan) is a retirement account registered to the government which gives some tax advantages when used correctly. Contributions up to a certain limit are tax deductible on RRSP.
RRSP is a kind of RSP. Investments such as stocks, mutual funds, and ETFs inside RRSP are tax free. Generally, deposits to RRSP are tax deductible while withdrawals are considered as taxable income.
Other kinds of RSP include a pension plan, real estate that earns monthly rent income, or any other investments that can potentially fund retirement.
Examples of RSP (Retirement Savings Plan)
Every investment has its own risks and potential returns. There is a possibility of losing money for almost all investments. Diversifying between different investments may help lower risk. Consult a Financial advisor for professional advise about retirement planning.
1. Houses (Real Estate)
Rent income from real estate may provide a consistent income for retirement. However, prices of real estate in Canada have become more expensive the past decade or two.
Also, real estate prices may crash. A 50% real estate crash may have severe negative impact to your net worth.
Furthermore, there is no tax deductions when purchasing a house for retirement investment. The next investments on this list may have tax deductions but is subject to a maximum contribution limit a year.
2. RRSP (How RRSP Works)
Deposits to an RRSP are tax deductible up to a certain contribution limit. Assume $100,000 of income is earned from employment on a year. Contributing $10,000 to an RRSP account will lessen the taxable income to only $90,000 after the RRSP tax deduction. Supposing a 35% tax rate, contributions will result to a tax savings of $3,500 (35% of $10,000).
Marginal tax rates increase as the amount of taxable income rise. The highest combined (provincial and federal) marginal tax rates in Canada is around 55% for income starting at around $220,000 on a calendar year.
However, withdrawals from RRSP are taxable since RRSP is designed for retirement income. Tax rates on retirement are typically lower since there is no longer employment income. After all, lower taxable income generally means lower tax rates.
The first $40,000 or so of income in Canada have a combined federal and provincial tax rates of around 20%. From the example, avoiding the 35% tax rate to only pay 20% at the time of withdrawal will result to a tax savings of 15%.
RRSP Investments
After transferring money to an RRSP, most RRSP accounts offer different investment options. The most common investments that can be held inside an RRSP include stocks, bonds, mutual funds, savings accounts, GICs (Guaranteed Investment Certificates), and ETFs (Exchange Traded Funds).
Profits from investments on RRSP are tax free until withdrawn. RRSP enables investments to grow tax free.
Stocks, ETFs, and Mutual Funds inside an RRSP
Stocks are ownership of a company. The stock price of a company typically depend on the growth of sales or profits of a company. ETFs are diversified investments which can include stocks and other assets. S&P 500 ETFs such as SPY and VOO tracks the returns of 500 largest stocks in America.
Owning an S&P 500 ETF is similar to owning 500 stocks. On the other hand, mutual funds are managed by asset managers to choose stocks and other assets for you. Mutual funds charge a yearly management fee of around 1% to 2% while most ETFs have a yearly fee of 0.05% to 0.50%.
Questrade RRSP
Questrade offers a self-directed RRSP account where you can buy and sell stocks, ETFs, and mutual funds. Questrade was founded on 1999. Questrade charges around $5-10 for buy or sell stock trades. The main advantage of Questrade is free ETF buys. Selling ETFs on Questrade have a commission fee of about $5-10.
Questwealth, on the other hand, is offered by Questrade to automatically invest funds for a management fee of around 0.37% per year (0.25% charged by Questrade, 0.12% by ETFs). When opening a Questwealth account, a survey needs to be filled to know your risk tolerance and to suit your financial goals to your Questwealth portfolio.
Questrade Video Tutorial: How to Buy and Sell Stocks
Wealthsimple Trade RRSP
Launched on 2019, Wealthsimple stands out as the simplest to use stock and ETF trading platform in Canada. However, they charge an exchange rate fee of 1.50% for every buy or sell US stock and ETF trades. For this reason, people prefer Wealthsimple Trade for Canadian stocks and ETFs since there is no commission for Canadian dollar trades.
Since Wealthsimple is a relatively new platform in Canada, opening an RRSP may be better with the traditional big banks or Questrade. A Personal (taxable) account with Wealthsimple Trade may be best to start trading stocks with small money in Canada.
Wealthsimple Trade requires no minimum balance to start investing. However, a requirement of buying at least $100 of any stock is needed to get the $25 bonus.
RRSP Savings Account and GIC
RRSP Savings accounts and GICs earns a constant interest income from the money invested. Funds on an RRSP Savings account can be withdrawn anytime.
GIC (Guaranteed Investment Certificate) – Rates on an RRSP Savings account can change anytime. Funds on an RRSP Savings account can be used to purchase a GIC. GICs earn a fixed interest rate income for a period of time which typically varies from 3 months to 10 years.
However, funds on a GIC may only be available to withdraw after the term length of a GIC. The rates are always expressed as a yearly rate for most Financial Institutions’ websites unless otherwise specified.
Interest income from a GIC are usually paid to an RRSP Savings account. At maturity date when a GIC expires, funds on GIC are transferred back to the RRSP Savings account.
Like any RRSP accounts, withdrawals from an RRSP Savings account are taxable. As long as the funds stay on an RRSP, interest income are generally tax free. Taxes will apply on withdrawals since RRSP withdrawals are taxable income.
RRSP Contribution Limit
The contribution limit on an RRSP is the 18% of your previous year’s income up to a certain limit ($27,830 for 2021). Also, unused RRSP limits from past years will automatically be added to your current contribution limit.
For example, a person earned $100,000 on tax year 2020. The RRSP contribution limit for tax year 2021 will be $18,000 (18% of $100,000) which means up to $18,000 can be contributed to an RRSP and deducted when filing 2021 income taxes.
To skip calculations, the RRSP Contribution Limit amount is specified on your Notice of Assessment (received after filing taxes) from the CRA (Canada Revenue Agency – Tax Authority in Canada). Also, the RRSP contribution limit is stated on your CRA account.
RRSP Withdrawal
To withdraw from an RRSP, selling some investments such as stocks or mutual funds may be necessary to convert to cash. Investments such as stocks and ETFs can be converted to cash in less than a week. When some investments are sold and converted to cash, funds can be withdrawn anytime from an RRSP account.
- No Limit
- Withdraw funds anytime
Withdrawing before retirement is possible, but may be subject to higher tax rates. For example, withdrawing $20,000 from an RRSP while having an employment income of $100,000 will result to a taxable income of $120,000. For most provinces in Canada, this may result to a marginal tax rate of around 35%.
In comparison, withdrawing $20,000 from an RRSP during retirement with little additional income may result to a lower marginal tax rate. Assuming $10,000 income from other pension plans, a total of $30,000 taxable income may result to a tax rate of only 20%.
3. Investments Outside RRSP
Investments such as GICs, stocks, mutual funds, and ETFs can also be held on a non-registered account. Assets on a non-registered account are taxable. There is no limit to how much you can withdraw or deposit on a non-registered account. Income are taxable regardless when you will withdraw it on a non-registered account.
For example, interest income from a regular savings account are taxable while income from RRSP Savings accounts are tax free and will only be taxable when withdrawn from RRSP.
Dividends received from stocks and ETFs on a non-registered account needs to be declared when filing income taxes every year while dividends on RRSP are tax free until the time of withdrawal.
4. Pension Plans
Purchasing a pension plan may provide a monthly or annual income for set period amount of time. Depending on your employment contract, some employers may contribute to a Pension Plan for you.
Pension Plans like annuities may vary from only 5 or 10 years in length to lifetime annuities. Also, some payments from pension plans may rise with inflation or remain constant for a period of time.
Moreover, the government of Canada have a pension plan called the Canada Pension Plan (CPP).
5. TFSA (Tax Free Savings Account)
Investment profits on TFSA are tax free. Deposits and withdrawals to TFSA account are also tax free. Unlike RRSP, deposits to a TFSA account are not tax deductible.
Similar to RRSP, investments such as stocks, mutual funds, bonds, ETFs, and GICs can be held on a TFSA account.
TFSA Contribution Limit
Additional contribution limit are added every year on a TFSA no matter how much income you earn. The additional contribution limit amount on TFSA on 2021 is $6,000. TFSA started on 2009 with a limit of $5,000. The yearly contribution limit adjusts with inflation.
Contribution limit for both TFSA and RRSP are the maximum amount you can deposit to these accounts. These deposits can then be used to purchase investments such as stocks and ETFs.
Like RRSP, unused TFSA Contribution limits from previous years are added to your current contribution limit.
TFSA Contribution Limit = Yearly Limit amount + unused TFSA contribution limit from past years + withdrawals from the previous year
TFSA Withdrawals
TFSA withdrawals are tax free with no limit. Moreover, funds on TFSA can be withdrawn anytime. The amount of TFSA withdrawals will be added back to next year’s contribution limit.
Can I take money out of my RRSP without penalty?
One of the two ways to take money out of an RRSP without penalty is through the Home Buyer’s Plan where up to $35,000 of RRSP withdrawals are tax free when CRA conditions are met. HBP helps to pay down payment of first house. Generally, taking money out of RRSP are taxable income and included when filing yearly taxes.
Taking money tax free from an RRSP through HBP (Home Buyer’s Plan) is required to be paid back. In a sense, the tax free RRSP withdrawals are merely borrowing money from an RRSP. Withdrawing money through HBP plan may have some requirements, visit canada.ca for more information.
Can I withdraw money from RSP?
The process of withdrawing money from an RSP depends on the type of investment. Investments like individual stocks and ETFs inside an RRSP can be withdrawn anytime since these assets are easily convertible to cash in less than a week. Pension plans may have a maximum monthly withdrawal amount.
Can you lose money in RRSP?
Losing money on an RRSP is possible when the investments like stocks and mutual funds inside an RRSP drop in value. A low risk investment inside an RRSP are GICs and RRSP Savings account. These low risk investments provide the least potential returns and gives a fixed rate of income. Returns from stocks varies from losing -100% to earning +500% or more.
How does money grow in RRSP?
Money can grow on RRSP by investing RRSP funds on ETFs, stocks, savings accounts, mutual funds, or other kinds of assets inside an RRSP account. A low to medium risk investment may be ideal than high risk assets for retirement accounts such as RRSP.