From a young age, we are all told that we should start saving early and think of retirement. In Canada, the most popular type of account for retirement savings is a Registered Retirement Savings Plan, more commonly known as an RRSP.
What is an RRSP?
An RRSP is a retirement savings plan that Canadians can open and contribute to up to age 71. RRSPs are registered with the government and any income you earn on your RRSP savings or investments is exempt from taxes until withdrawal. Additionally, contributions made to an RRSP account can be deducted from your annual income to reduce your tax.
How do RRSPs work?
Individuals who open an RRSP can make annual contributions (up to a certain amount) into their account. Since RRSPs are tax-deferred accounts, any interest or investment income earned within your RRSP will not be taxed until you withdraw that money.
Note that you cannot own an RRSP past December 31 on the year in which you turn 71. At this point, the funds need to either be withdrawn or converted into a Registered Retirement Income Fund (RRIF) or purchase an annuity.
How to open an RRSP
Before opening an RRSP, do some research to choose which financial institution you would like to go with. It could be a traditional bricks-and-mortar bank, online bank, credit union, trust or insurance company. Consider types of RRSPs available, your risk level, types of investments you want to hold, and then compare fees. Once you have decided, you’ll be asked to fill out an application form to open your account.
After your account has been set up, you can begin contributing to the RRSP by making deposits directly into the account. Oftentimes, this can be done online. You can choose to contribute annually with a lump sum deposit or set up automatic contributions or pre-authorized debits to be deposited into the account throughout the year. Keep in mind that each individual has an annual RRSP contribution limit that varies with their income.
Note that there is no minimum age requirement to open an RRSP. A minor is eligible to open an RRSP (with the help and consent of a parent or legal guardian) as soon as they have a Canadian employment income and file a tax return.
» MORE: How to open a bank account
Types of RRSPs
When you open an RRSP you need to decide if you would like an Individual RRSP, a Spousal RRSP (in your spouse’s name, but you make contributions and get the deduction), or a Group RRSP (a pooled plan offered by some employers).
Once you have decided this, you can choose from four basic types of RRSPs:
Guaranteed investment certificates (GICs), which earn interest income, are held within an RRSP structure. While this is one of the safest options out there, returns are very low.
Mutual Fund RRSPs
Mutual funds are usually managed by a financial advisor at your institution of choice. They are RRSP eligible, however, this is often the most expensive option when it comes to fees.
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This is the DIY option of investing your RRSP. You can choose a discount brokerage firm online, allowing you to buy and sell stocks, bonds, and mutual funds as you wish. This type of RRSP will save on the fees but should only be considered by those who have the time and experience. (Those who are looking for lower fees but aren’t quite ready to dive into self-directed investing can also consider a robo-advisor.)
Savings Account RRSPs
Essentially just a savings account (regular or high interest) but structured as an RRSP. Again, a safe option but low returns
» See our picks: The best high-interest RRSPs in Canada
Pros and cons for RRSPs
- Easy way to save for your future
- Tax-deferred contributions and investment earnings
- No minimum age requirement
- Tax-deferred is not the same as tax-free; you do pay tax on the money eventually (upon withdrawal)
- Contribution room is based on income
- Mandatory conversion to an RRIF or annuity before age 72
» Make the most of your savings: 10 RRSP benefits you shouldn’t ignore
RRSP rules and tax considerations
There are a few rules and considerations to keep in mind when it comes to RRSPs. These include:
You can contribute only a certain amount to your RRSP every year, called your RRSP contribution limit. This limit is 18% of your earned income from the previous year, up to a predetermined maximum set out by the CRA (this amount changes annually), plus any unused contribution room carried forward from previous years.
As long as your account is not a locked-in RRSP (also called a locked-in retirement account, or LIRA, in some provinces), you can technically withdraw funds at any time. However, because withdrawals are taxable (except when made under the Home Buyer’s Plan or Lifelong Learning Plan programs), the financial institution under which you hold your RRSP will withhold a certain percentage (10%-30% in most of Canada, depending on the amount taken out) for income tax.
Keep in mind that the tax withheld may not be enough to cover your tax bracket and you may end up having to pay even more come tax time. It is also important to understand that you also lose the contribution room once you have withdrawn money from your RRSP.
» MORE: How an RRSP compares to an Tax-Free Savings Account (TFSA)
FAQs for RRSPs
If you hold investments such as stocks and bonds within your RRSP, you should expect the balance to fluctuate, as it would in any investment account. The biggest concern, however, is withdrawing money early. You then lose the contribution room and therefore the tax-deferred compound interest and investment gains you could have earned on the full amount.
It depends on how, or if, you name a beneficiary on your RRSP.
Suppose the beneficiary is a spouse, common-law partner or a financially dependent child or grandchild with a mental or physical disability. In that case, the RRSP is typically rolled over to the beneficiary on a tax-deferred basis.
Suppose you name other beneficiaries (or none at all). In that case, however, the commuted value of the RRSP will be reported as taxable earnings on your final income tax return, which is prepared and filed by your estate’s executor.
Eligible deposits, such as GICs or term deposits, held within RRSPs are protected by CDIC insurance (up to prescribed maximums), so long as the financial institution you choose is a CDIC member.
TFSA vs. RRSP: What is The Difference and How to Choose
An RRSP defers tax until you withdraw the funds. With a TFSA, you pay income tax first and won’t pay tax on the withdrawal. Both have their purpose.
How Does CDIC Deposit Insurance Protect Your Money?
When member financial institutions fail, the Canada Deposit Insurance Corporation (CDIC) covers up to $100,000 per account in the form of free insurance.
How Do RRSP Contribution and Deduction Limits Work?
RRSP contribution and deduction limit is 18% of your previous year’s earned income, up to an annual maximum, plus any unused contribution room carried forward from previous years.
What You Should Know About RRSP Withdrawals
You can withdraw from your registered retirement savings plan at any time, but withdrawals made before you turn 71 can lead to significant penalties.