{"id":291,"date":"2013-02-19T10:53:11","date_gmt":"2013-02-19T18:53:11","guid":{"rendered":"https:\/\/mgfadvisory.ca\/news\/?p=291"},"modified":"2018-08-23T10:53:43","modified_gmt":"2018-08-23T17:53:43","slug":"rrsp-tips-and-traps-part-1","status":"publish","type":"post","link":"https:\/\/mgfadvisory.ca\/news\/2013\/02\/19\/rrsp-tips-and-traps-part-1\/","title":{"rendered":"RRSP Tips and Traps \u2013 part 1"},"content":{"rendered":"
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We are now well into the 2013 RRSP season, where many turn attention to the fact they haven\u2019t or should be making an annual RRSP contribution.\u00a0 I have put together a 2 Part Blog on RRSP that I hope people find informative when they consider their RRSP contributions for the current and future years.\u00a0 Part 1 is about the initial tax savings and tax deductions.\u00a0 Part 2 will come out later this week and lists a series of other tips and traps to consider when making your annual RRSP contributions.<\/p>\n

Tax Savings<\/strong><\/p>\n

Why do we do RRSPs?\u00a0 A few reasons generally, but most often cited is: I need the tax deduction on my return!<\/p>\n

How much tax we can save with an RRSP contribution depends on what marginal tax rate we are facing.\u00a0 The marginal tax rate is the rate of tax that an individual incurs on each additional dollar of taxable income they earn.\u00a0 It is not to be confused with the average tax rate, which is the rate of tax an individual pays on their entire taxable income.\u00a0 Our tax structure is incremental in nature:\u00a0 the more we make in taxable income, the higher tax rate we pay, but only on the additional taxable income.<\/p>\n

For example, a person making $70,000 has an average tax rate of ~21% (ignoring extra tax credits or deductions, they will owe approximately $15,000 on this taxable income \u2013 $15,000 \/ $70,000 = ~21%).\u00a0 While the average tax rate is ~21%, this person is in the 29.7% marginal tax rate in British Columbia for 2012 and 2013.\u00a0 Therefore, a $5,000 RRSP deduction could save this person a maximum of $1,485 ($5,000 x 29.7%).<\/p>\n

So if you want to know how much you are going to save with your RRSP contribution, you need to know your marginal tax rate.\u00a0 Here is a marginal tax rate schedule compliments of\u00a0taxtips.ca<\/a>\u00a0(http:\/\/taxtips.ca\/taxrates\/bc.htm<\/a>).\u00a0 All calculations in this part of the blog are compliments of using the\u00a0taxtips.ca<\/a>\u00a0website!\u00a0 However, seek proper tax advice prior to making any RRSP contributions for tax purposes.<\/p>\n

Contributions in the first 60 Days of 2013<\/strong><\/p>\n

Any contributions you make to an RRSP in the first 60 days of a calendar year (e.g January 1st\u00a0to March 1st\u00a0\u00a0of 2013) can be deducted either on the prior calendar year\u2019s tax return (e.g. 2012), or in current year\u2019s tax return (e.g. 2013).\u00a0 As you might suspect, most people at this time are interested in taking the RRSP deduction in the prior year\u2019s return, to help offset taxes payable or increase a tax refund coming this April.<\/p>\n

However, if is ultimately your choice when you deduct the RRSP contribution.\u00a0 In other words, the contribution to an RRSP is one thing, the deduction is another.\u00a0 If you so chose, you could defer taking the tax deduction in the current and prior year, and carry the deduction forward to 2014 or later.<\/p>\n

What should drive our decision on when to take the deduction?\u00a0 The marginal tax rate I\u2019m saving!\u00a0 If I am in a higher marginal tax rate in 2013 versus in 2012, I might wish to take the deduction in 2013.<\/p>\n

This may be hard to estimate for some people, but for others it can be straight forward.\u00a0 For example, if I was working part-time in 2012 and full-time in 2013, I may have an advantage to take the RRSP contribution in 2013.\u00a0 If I was working full-time in 2012 and retired in 2013, I may have an advantage to take the RRSP contribution in 2012.\u00a0 If I expect to make similar income for the next few years, but I am planning to sell property in 2014 at a considerable taxable gain, then I might want the RRSP deduction in 2014.<\/p>\n

So the main lesson here is \u2013 know your marginal tax rates!\u00a0 Then you know if deducting your RRSP for 2012 is the right choice!<\/p>\n

Tax Savings or Tax Deferral?<\/strong><\/p>\n

Bear in mind that ultimately you will be withdrawing from your RRSP, and when you do it will be taxable income to you.\u00a0 So the current tax savings is important, but given you will ultimately pay taxes in the future on the RRSP withdrawal we should look at the RRSP as a combination of tax savings and tax deferral.\u00a0 Tax deferral means instead of paying taxes now, I will pay them later.\u00a0 A tax deferral can be very powerful, as you can grow assets in a tax deferred environment generally more quickly then you can in an environment that forces annual taxes payable.<\/p>\n

Generally, you will accomplish a tax savings and tax deferral with an RRSP.\u00a0 Why both?\u00a0 Because you will generally be in a lower marginal tax rate when the time comes to start withdrawing your RRSP (e.g. at retirement).\u00a0 In this case, you will pay some taxes on your RRSP withdrawal (tax deferral), but you will pay a lower marginal tax rate on the withdrawal than what you saved on the contribution (tax savings).<\/p>\n

Spousal vs. Spouse<\/strong><\/p>\n

When making an RRSP contribution, know whose RRSP room you are using and who will ultimately be taxed on the RRSP withdrawal.<\/p>\n

If you contribute using your RRSP contribution room, but you spouse will be taxed on any future RRSP withdrawal, this is called a\u00a0Spousal RRSP Contribution<\/strong>.\u00a0 In a Spousal RRSP Contribution, you get the tax deduction (subject to having RRSP contribution room, of course).<\/p>\n

If you contribute using your Spouse\u2019s RRSP contribution room, and your spouse will be taxed on any future RRSP withdrawal, this is your\u00a0Spouse\u2019s RRSP Contribution<\/strong>.\u00a0 In a Spouse\u2019s RRSP Contribution, your Spouse is getting the tax deduction (subject to having RRSP contribution room, of course).<\/p>\n

One other thing to be aware if you do Spousal RRSP Contributions \u2013 the\u00a03 Year Rule<\/strong>!\u00a0\u00a0 If your Spouse withdraws from a Spousal RRSP in the year of a contribution made by you, or two years thereafter, then part or all of that RRSP withdrawal will be taxable in the contributor\u2019s hands.\u00a0 This tax rule was put in place to avoid short-term planning to get a higher income spouse an RRSP deduction and a lower income spouse an income inclusion in a short period of time.\u00a0 So if you plan to use a Spousal RRSP Contribution strategy, make sure you are up to speed on the 3 Year Rule!<\/p>\n

Over-Contributing<\/strong><\/p>\n

One last comment on RRSPs and tax savings \u2013 don\u2019t over-contribute!\u00a0 Your last year Notice of Assessment from Canada Revenue Agency highlights your 2012 RRSP limit.\u00a0 If you go over this limit, your over-contribution may face penalties of 5% and interest of 1% monthly!\u00a0 Check out the CRA website for further details \u2013\u00a0http:\/\/www.cra-arc.gc.ca\/tx\/ndvdls\/tpcs\/rrsp-reer\/cntrbtng\/xcss-eng.html<\/a>.<\/p>\n

If you have any questions, send me a message at\u00a0marco@mgfadvisory.ca<\/a>.<\/p>\n<\/div>\n","protected":false},"excerpt":{"rendered":"  We are now well into the 2013 RRSP season, where many turn attention to the fact they haven\u2019t or should be making an annual RRSP contribution.\u00a0 I have put together a 2 Part Blog on RRSP that I hope people find informative when they consider their RRSP contributions for the current and future years.\u00a0…

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