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Decoding retirement savings options

Understanding the benefits of RRSPs, RRIFs and TFSAs.

Saving for retirement seems like a simple enough concept – put aside a bit of money each month and eventually it grows into a sizeable nest egg. But as you begin to do a bit of research, head-scratching acronyms start popping up along with messaging about tax implications, and then suddenly setting money aside can start to feel pretty confusing.

The good news is that helpful advice is readily available. In a recent Solutions to go podcast, Manulife tax specialist John Natale offers up a few important insights on retirement savings, taxes and some of those acronyms. We’ve compiled this wealth of information into three useful sections to give you a well-rounded education on RRSPs, RRIFs and TFSAs.

What’s an RRSP?

RRSP stands for Registered Retirement Savings Plan. It’s a program created by the federal government to encourage people to save for retirement while also offering tax advantages. Here are a few important points:

  • Making regular contributions to an RRSP puts you on the path for wealth creation. By setting up weekly or monthly automatic contributions, your money will grow over time thanks to the power of compounding interest. Start early and contribute as much as possible, given your overall household budget.
  • RRSP contributions generate a tax deduction. If you’re relatively new to paying taxes, a tax deduction is a great thing, but there are limits!
  • How much you are allowed to contribute to an RRSP every year is based on your income. The limit for 2023 is equal to 18 per cent of your 2022 earned income, or $30,780 (whichever is lower) plus any previous unused contribution room. Check your most recent notice of assessment from the Canada Revenue Agency, which will indicate your contribution availability.
  • Funds contributed to an RRSP can be invested in a number of ways, including mutual funds or bonds. As your money grows, you’re building a nest egg for retirement – and depending on the investment, earning more than if it was sitting in a typical low interest savings account.
  • You can take funds from an RRSP at any time, but you will pay tax on withdrawals at your marginal tax rate.
  • Contributing to an RRSP helps to reduce annual taxable income during peak earning years. When you make withdrawals later in life, chances are good that you’ll be taxed at a lower rate in retirement. Your marginal tax rate is the tax you pay on the last dollar of income you earn.
  • Beware of overcontributions! For contributions that exceed your RRSP limit + $2,000, the penalty is 1 per cent per month. More information on overcontributions is available here.
  • No one likes to think about dying, but estate planning is important. If you were to pass away, the balance of your RRSP would be transferred to your designated beneficiary. Talk to your advisor to set up an estate plan. It’s never too early and you’re never too young to get a plan in place!

What’s a RRIF?

RRIF stands for Registered Retirement Income Fund. This account is set up when you’re ready to begin pulling retirement income out of your RRSP. Confused yet? Don’t worry, it’s relatively straight-forward and it may be a few years (or many years) before you need to worry about setting up a RRIF. Here are the basics:

  • You might wonder why you need a RRIF. The short answer is that there’s an age limit for contributing to an RRSP. Converting funds to a RRIF is the next step in the retirement investment process to pay yourself a regular income and keep your money growing without tax while it’s in the account.
  • RRSP funds must be converted into a RRIF by the time you turn 71. You have until December 31st of that year to do so. If you want to tap into those retirement funds earlier, you can set up a RRIF at any age, but age 71 is the latest age to do so.
  • You can’t make contributions into a RRIF, only withdrawals. If you have multiple RRSPs, you can consolidate these funds into one single RRIF, which makes withdrawals easier to manage. You can also transfer funds from one RRIF to another.
  • Once you’ve set up a RRIF, there’s a minimum annual withdrawal limit. The minimum withdrawal is based on your age and the amount in the account. For example, at age 65 the minimum withdrawal is 4 per cent of the amount of money in the RRIF, whereas someone in their mid-90’s must withdraw 20 per cent of the amount. There’s NO withdrawal maximum – you can take out as much as you like each year, but keep in mind that you pay tax on those withdrawals. Withdrawals are taxed at your marginal tax rate.
  • Similar to your RRSP (described above), if you were to pass away before you’ve withdrawn all the money from your RRIF, the balance would be transferred to your designated beneficiary.

What’s a TFSA?

TFSA stands for Tax-Free Savings Account and is designed to be a flexible way for your money to grow in a tax-free environment. It can be a really useful way to build some savings that aren’t necessarily for retirement. Let’s break it down further:

  • The biggest advantage of contributing to a TFSA is that contributions grow tax-free. Within a TFSA, you can purchase investments such as mutual funds, bonds, or stocks, and the earnings from interest, dividends from stocks and capital gains are not taxed.
  • A TFSA can be a handy account if you’re saving up for things like a big trip, buying new furniture, home renovations (you get the idea). Your money remains easily accessible for when you want to withdraw it.
  • There’s a limit to how much you can contribute. For 2023, you can put $6,500 into a TFSA. If you’ve never contributed before and were eligible to do so, you’ll have a cumulative limit of $88,000, dating back to when the TFSA was first introduced in 2009.
  • Beware of over-contributions which are subject to a penalty under the Canadian Income Tax Act. The penalty imposed is 1 per cent of the highest amount per month over your contribution limit. You can withdraw that amount to avoid the penalty.
  • You don’t pay any tax on funds withdrawn from a TFSA. That’s because the money you initially deposited has already been taxed.
  • As part of your estate planning, you will want to name a beneficiary for your TFSA.
  • If you choose to use a TFSA to fund retirement income, the withdrawals from a TFSA do not count as income and won’t affect income tested benefits such as Old Age Security payments.  

Even if topics such as retirement or saving for home renovations feel off in the distance, developing a basic understanding of how different investment tools work can help you get ahead in life a little faster. With a working knowledge of the basics, you can look forward to a more productive conversation with your advisor.

For more information about saving for the future, check out this section of Solutions magazine.

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