Advanced Strategies for Registered Retirement Savings Plans (RRSPs)

Terry Fong

Filed under: Budgeting & Planning, Debt, Investing, Loans, Retirement and RRSPs, Taxes

You put money into a Registered Retirement Savings Plan (RRSP), which automatically reduces your taxes and Bam! Instant Tax Refund (tm). The tax break is why most of us make our first contribution to an RRSP, and that motivation continues every year we're earning an income and want to defer tax payments.

The good news is that, if you're strategic, there are even more benefits that can be gained. As your portfolio gets larger or more diverse and your life situation changes, there are a few RRSP quirks you may want to take advantage of.

Spousal or Common-Law RRSP

You can set up a spousal or common-law partner RRSP. You can then contribute into your spouse or common-law partner's RRSP; you get the deduction, but they own the plan. Generally, the partner with the higher income will contribute; this allows a higher tax reduction when contributing and a lower tax bill when your spouse or common-law partner withdraws the money, as they will presumably be in a lower tax bracket.

Excess Contributions

You may inadvertently put in too much money into your RRSP. If so, withdraw the amount as soon as possible. There are taxes assessed for any amount over $2,000 in excess of your limit; the tax is one per cent of the excess for each month the excess exists. This will accumulate quickly. After a year, 12 per cent or almost one-eighth will be taxed away.

'Borrowing' From Your RRSPs

You can temporarily withdraw from your RRSPs without being subject to taxes for two purposes: buying a home or furthering your education.

Under both the Home Buyers Plan (HBP) and the Lifelong Learning Plan (LLP), you need to pay any amounts you withdrew back into your RRSP. The amounts required, as well as the start and duration of payment periods, are slightly different for the two. The required amounts are stated on your yearly Notice of Assessment and any unpaid amounts are added to your income for that year.

If you're a new homeowner, under the HBP you're allowed to borrow up to $25,000 from your RRSP. Note that you can have previously owned a home, as anyone who has not owned a home in the last four years is considered a new homeowner.

You can borrow the money after signing the paperwork to buy or build your principal residence and you must occupy your new home within one year. You have 15 years to pay back the withdrawal, starting the second year following the year you made your withdrawals. One-fifteenth (or 6.67 per cent) of the withdrawal is due each year. You and your spouse or common-law partner can contribute.

Similarly, with the LLP you can borrow up to $10,000 per year, to a maximum of $20,000, to pay for expenses while studying in a post-secondary program. This can be for yourself or your spouse, but it cannot be for your children. Note that this does not have to pay for tuition or books. Repayment is 10 per cent of the withdrawn amount, beginning two to five years after the initial withdrawal. The CRA has more details on when repayments begin.

Loans for RRSPs

You may be considering whether to borrow money in order to set up an RRSP. Some institutions will lend you the money, although generally you have to use that money to contribute to an RRSP at that institution.

Note that you cannot deduct the interest for such a loan from your taxes. You can deduct the interest for loans to buy stocks and other investments, which can later on be placed into your (self-directed) RRSP.

Options Other Than Cash: the Self-Directed RRSP

You're not limited to contributing cash to your RRSPs. If you prefer to build and manage your own investment portfolio, but would like to shelter investments within an RRSP, you can set up a self-directed RRSP.

With a self-directed RRSP, you can also contribute various financial instruments, including shares, bonds, units of a mutual fund or a mortgage -- possibly including your own mortgage. You will have to check with your financial institution if they offer self-directed RRSPs and what fees are involved.

Transfers Into Another RRSP

Nothing stops you from holding multiple plans at one or more financial institutions This allows you to set up new plans that might better suit you, each with a different level of risk. Transfers from one RRSP into another are not taxed, which is good if you want to consolidate plans for simplicity. Of course, your bank may charge you a fee, especially if you are transferring an amount out of your plan.

Age 71: The Beginning of Retirement

By the end of the year you turn 71, you must have done one or more of the following with your RRSPs:

Withdraw the funds. These withdrawls are treated like any other, including a withholding tax, and are declared as income.
Purchase an annuity. This pays a set amount of money each month until either the end of the annuity period, or for the rest of your life.
Transfer the funds to a Registered Retirement Income Fund (RRIF). The funds that you transfer into a RRIF are used to make payments to you. There is a minimum amount you must withdraw each year, which is based on your age or your spouse or common-law partner's age. You can also have self-directed RRIFs with the same rules as self-directed RRSPs. More about setting up a RRIF can be found at the Scotiabank site.

You can also decide to do this before turning 71.

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