Is an RRSP an Investment? If You Answered Yes, You're Wrong!
If you think an RRSP is an investment, don't worry; many Canadians think the same. However, an RRSP - Registered Retirement Savings Plan, is simply a shelter, not an investment.
I like to explain it this way: think of your RRSP as a garage. It's essentially an empty structure. You still need to put cars into your garage. These cars could be GIC's at your bank, stocks, bonds, mutual funds or just about any combination and more. But without carefully choosing which cars go into your RRSP and periodically changing those cars up, many Canadians aren't optimizing their RRSPs.
Thinking that the shelter is the investment is the number one error I see individuals making when it comes to RRSPs. They rush into their banker or financial advisor's office moments before the deadline and take a sigh of relief that their investment made it in time for a juicy tax refund to come. The professionals in the financial industry are swamped at RRSP time and may simply plunk your investment in a cash account within the RRSP (that's a car too) so that you can make the deadline and ask you to remember to come back at a less busy time of the year to property allocate (diversify) your contribution. You forget to do so, or at least, many do, and therefore your RRSP doesn't work as hard as it could to grow your retirement savings.
So, the first step is to truly understand what an RRSP is and isn't.
To further illustrate this point, if you had a stock in a non-registered plan and bought it for $100. It increases to $200 and you decide to sell. You would have a $100 gain (not factoring in commissions or any other costs). In Canada, you're only taxed on 50% of a capital gain. Therefore, of your $100 profit, you only have to include $50 at tax time and then would be charged taxed on the $50 based on your marginal tax bracket. None of this would matter inside the RRSP whether you were buying or selling a stock, bond, mutual fund or more (each investment might be taxed differently). Tax is only payable at retirement or when you make a withdrawal. However, every dollar you do take out of a RRSP (or RRIF at retirement) is taxed at your marginal tax bracket no matter what the original investment was.
Now that you hopefully have a clearer understanding of exactly what an RRSP is, your next question should be is an RRSP right for you? It all depends on your current and future tax bracket, do you have any high interest debt or will you have a significant pension at retirement? There are many more questions indeed to be asked before you rush this year to make your contribution on time. Seek the advice of a Certified Financial Planner or reputable financial advisor that can asses your entire financial picture before you invest this year.
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Kelley Keehn is a financial expert, author, speaker and host of W Network's, Burn My Mortgage. She's also a weekly contributor to the Globe and Mail. For more information,visit www.kelleykeehn.com. Do you have a money question? Drop Kelley a line at firstname.lastname@example.org. Do yo