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How RRSP Works in Canada

A Registered Retirement Savings Plan (RRSP) is a retirement saving and investment plan scheme for employees and self-employed people in Canada. Pre-tax money is incorporated into an RRSP and it grows tax-free until withdrawal, at which it is then taxed at the marginal rate. RSSP is registered with the Canadian government and governed by the Canada Revenue Agency (CRA), which establishes the rules governing annual contribution limits, contribution timing, and what assets are allowed within the scheme.

Things You Should Know About RRSP

  • RRSP contribution limit depends on the percentage of your annual income
  • Your contributions are tax-deductible
  • There is zero tax payable on investment growth.
  • Withdrawals attract income tax
  • Withdrawals may only be redeposited if you have enough extra contribution space. Note that once you withdraw, you may never get the contribution space again.

Types of RRSP

There are several types of RRSP, though generally they are established by one or two related people, usually individuals or spouses. The types of RRSP include:

  • An Individual RRSP

This is usually established by a single person who is standing as the account holder and the contributor.

  • A Spousal RRSP

A Spousal RRSP offers benefits for a single spouse and also a tax benefit for both spouses. A high-earner who is also known as the spousal contributor may contribute to a spousal RRSP in their spouse’s name, which is the account holder. Notably, since retirement income is shared equally, each spouse can benefit from a lower marginal tax rate.

  • A Group RRSP

A group RRSP is established by an employer for employees. It is funded with payroll deductions just like a 401(K) plan. It is run by an investment manager and provides contributors to the benefit of instant tax savings.

  • A Pooled RRSP

This is an RRSP option formed for small business employees and employers, also the self-employed.

RRSP Contribution and Withdrawal Limit

The RRSP contribution limit is the highest amount the taxpayer is permitted to deposit into an RRSP account annually. The RRSP contribution limit is unique to an individual or corporation as it takes into account the current year’s deduction limit and any previous unused contribution from past years.

The RRSP contribution limit for the year 2020 is 18% of earned income you declared on your tax return in the past year, up to a maximum of $26,500. For the year 2020, the dollar limit established is $27,230. You can choose to contribute more, though extra funds over $2,000 will be struck with penalties. Note that if your company has a pension plan, your RRSP contribution limit will be reduced.

RRSP deduction limit refers to the current year’s limit rather than the previous year’s unused contribution. Over time, the RRSP deduction limit has increased. The previous RRSP limit for the year 2019 was $26,500, for the year 2020, the RRSP deduction limit is $27,230. Note that the amount may increase annually. There are also no age limitations; any money is included as taxable income in the year of withdrawal, there are conditions to this.

Approved Assets for RRSP

As mentioned above, there are several types of investment; also there are several investment accounts that are allowed in RRSPs. They include:

  • Mutual Funds
  • Foreign Currency
  • Exchange-Traded Funds
  • Equities
  • Guaranteed Investment Certificates
  • Bonds
  • Labor-Sponsored Funds
  • Savings Accounts
  • Mortgage Loans
  • Income Trusts

RRSP Withdrawal at Retirement

The established RRSP withdrawal age is 71 years. It is unlawful to have an RRSP account past the end of the year you turn 71. The funds in the account must be transformed into an RRIF account. A Registered Retirement Income Funds (RRIF) is a retirement fund like an income contract that pays income to a beneficiary or several beneficiaries. Funds withdrawn from an RRSP via RRIF account payout is taxed at the account holder’s marginal tax rate.

Notably, there are two types of taxes to put into consideration when you are about to make RRSP withdrawal. They are:

  • Withholding tax rate
  • Marginal tax rate

At the end of the year you turn 71, the RRSP must be dissolved. At this stage, you must:

  • Take the whole amount as a lump-sum withdrawal, which might attract withholding tax. The whole amount must be added to your income and would be subject to your linked marginal tax rate.
  • Change the RRSP to RRIF and start receiving payment from it. There is an established minimum withdrawal limit by Canada Revenue Agency, it depends solely on age. Also, it is a percentage of the market value of the RRIF.

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