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Originally Published on February 5, 2019

Updated January 23, 2020

By any chance, have you been off the grid for the last month or so?  No?  Then I am certain that you have seen an advertisement for RRSPs during that time.

This is a big season for the average bank, fund provider, asset manager and just about anyone else involved in the investment or financial services industry.

The reason that this is such an important time is simple – RRSP sales.  And why are RRSP sales so important? RRSPs stay invested – for a long time.

Let’s use a simple example.  In this example, you invest $10,000 in an average mutual fund within your RRSP.  You are 30 years old when you contribute and plan to retire at the age of 65.  Let’s say this mutual fund has a 2% Management Expense Ratio (MER) and grows at a rate of 5% a year.   By the time you reach retirement, the mutual fund will have earned $10,326 in fees over that 35-year period.  $10,000 of income, from a single contribution!  In addition, you will keep your funds invested throughout your retirement as you withdraw from your RRSP as a source of income.  This example doesn’t contemplate admin fees, transaction fees, or management fees paid to your advisors.  These fees would be over and above the MER for the mutual fund.

As you can see, RRSPs are BIG business for the industry.

The problem with the sales cycle that we all endure during the early part of the year is that it doesn’t contemplate the most important factor.  YOU!

Blindly contributing to your RRSP is not a winning financial strategy.  When deciding whether you should contribute to your RRSP, you should take into consideration your individual financial situation. 

Isn’t Saving For Retirement A Good Thing?

Absolutely!  Start saving.  Right now.  Start yesterday if you are somehow able to do that.

According to a study by BDO, nearly two-thirds of Canadians say that they don’t have much, or anything, saved for retirement.  A key statistic from the report is that 47% of millennials have no retirement savings.

Saving for retirement helps to solidify your financial future.  Of the people surveyed in the study, 75% of those who haven’t retired yet expect to work longer than their parents did. 

Saving for your retirement is critical and I encourage you to do so, but blindly contributing to an RRSP is not the only way to achieve either your retirement or your broader financial goals.

Is An RRSP Contribution Right For Me During RRSP Season?

There are several considerations to take into account when determining your tax and retirement strategy.  RRSPs are an integral component of both.  Here are a few of the key items that you should keep in mind.

1. Am I carrying credit card debt?

Not only is it RRSP season, but it is also the time of year that we have to pay off our credit cards from the December spending spree.  Paying down high-interest credit card and other types of debt should be prioritized over contributing to your RRSP.

2. Do I have an emergency fund?

Retirement is a long way away for some.  You need to get there first.

An often-overlooked area for most, an emergency fund is mandatory to weather the ups and downs of life.  Identity theft, cracked foundations, leaky roofs, unexpected medical expenses, job loss, serious injury, elderly parents in need of care, vehicle breakdown or a surprise baby on the way.  These are just a sampling of the reasons that you should ensure that you have an adequate emergency fund at the ready.

3. Can I lock these funds in until retirement?

An RRSP isn’t a typical savings account.  When you put money into one, the general expectation is that you will keep the money there until it is time to fund your retirement.  As such, you won’t have access to the funds without penalty.  Funds that are withdrawn early experience 2 major consequences.

First, the funds withdrawn have a withholding tax applied against them.  The Federal withholding tax rate is 10% for withdrawals up to $5,000, 20% for withdrawals between $5,000 and $15,000, and 30% for withdrawals over $15,000.  In addition, if you live in Quebec, there is also a provincial withholding tax.  This means, that if you live in Ontario will need access to $15,000, you need to withdraw roughly $19,500 in order to be left with the cash that you need after federal withholding tax.  When you file your tax return for the year of withdrawal, the $19,500 would be included in your income.  If you have a marginal rate below the 30%, you should receive a refund for the difference, but you have just given the government an interest-free loan for the period between your withdrawal date and when your tax refund gets paid out.  If your marginal rate is greater than 30%, then you now need additional cash to cover the tax bill for the difference in tax rates.

Second, you lose the RRSP contribution room forever.  Unlike a TFSA, when you make a withdrawal from an RRSP, you do not get to put the withdrawal back in.  With a TFSA, you can re-contribute the amount that you withdrew in the following year.

4. What is my marginal tax rate, and what will my tax rate in retirement be?

This is the money maker when it comes to using RRSPs.  The best use of an RRSP is when you contribute money at a higher marginal tax rate than your planned marginal tax rate in retirement.  In a simple example, if you contribute at a 30% tax rate, but withdraw at a 35% tax rate, you will be paying more tax than you would have saved on the contribution.

That being said, the tax-deferred treatment of the investments within an RRSP can still result in a positive outcome despite the above tax rate scenario.  This will depend heavily on investment performance and the length of time the funds are invested.  Whether or not this will make sense for you will depend on several factors, however.

5. How much tax do I have to pay this year?

One of the immediate benefits of an RRSP is that it reduces your tax payable in the current year.  contributions made in tax years with higher marginal rates than are typical for you, provide the best bang for your buck.  If you contribute too much in the wrong year, you may be wasting some of the taxation magic that an RRSP contribution can provide given that contribution room is limited.   Which is a great segue…

6. How much contribution room do I have?

Unfortunately, the benefits of an RRSP are not unlimited.  You accrue 18% of your employment income as RRSP contribution room every year, up to a maximum of $27,230 in 2020.  If you have a limited amount of contribution room, you may be better served by using it in a later year when your marginal tax rate is higher.

7. Do I already have enough in my RRSP?

There is also the possibility that you don’t need to make any contributions.  If you have a workplace defined benefit pension, this may satisfy your retirement income needs by itself.  This is not a typical scenario, however. 

Another scenario of note is where you have ample RRSP savings already to fund your retirement needs.  In this case, additional contributions you could put yourself in a position where when you convert the RRSP to an RRIF you will end up in too high a tax bracket.  If this is the case, TFSA, non-registered accounts or Spousal RRSP contributions are more appropriate for your situation.

Buyer Beware: RRSP Loans

Another tactic that the financial industry likes to use is the offering of RRSP loans.

The general idea is that you take out a loan to contribute to your RRSPs, and then pay off as much of the loan as you can with your tax refund.

The major problem with this approach is that when you borrow money to invest in an RRSP, the interest that you pay on the loan is not tax-deductible.  In addition, as with most loans, there is an inherent risk.  The risk here is that unforeseen events could arise, or you simply get invited to go on a great spring break trip, and you may not pay the loan off in full.  All the while, you can’t deduct the interest because it was used to fund your RRSP.  Not a winning play.

Your Bonus & RRSP Season

Another item to consider is that this also happens to be around the time when many employee bonuses are paid out.  If your employer offers a savings program, such as a Group RRSP, then typically your employer will provide you with the option of having your bonus paid straight into your workplace RRSP plan.  In addition to the items mentioned above, there are additional considerations to keep in mind around this option.

1. What is the timing of the bonus payment?

This is critical from an RRSP perspective.  If the bonus will not be paid until after March 1, 2020, then it won’t be eligible for your 2019 tax year filing.  If this is paid prior to March 1, and you elect to contribute it to your Group RRSP, then you would have the option to apply it to either the 2019 or 2020 tax year. 

A word of caution on the prior to March 1 example – your bonus will be taxed as income in 2020 regardless.  If you contribute it and elect to use the RRSP deduction for the 2019 year, you would still have to pay the income tax on it in the 2020 tax year, but with the cash flow of the bonus to cover the tax owing.  As such, this would not be a generally recommended approach. 

2. What are the fees associated with my Group RRSP?

This is one that you will have to do some research around.  Mind you, this is research that I would recommend you perform no matter what.  Gaining an understanding of the investment products that are offered as part of your employer-based savings plans, and their fees will help piece together the overall cost of your portfolio.  While the fees associated with the products offered can vary, there may be an offsetting benefit to utilizing the savings plan, such as an employer savings match.  For example, if you contribute 5% of your savings each month into the plan, they may offer to match this 5%.  A 100% match of your money will offset the increased fees that they may offer. 

However, when it comes to your bonus, there won’t be an accompanying match on your contribution (like a standard pension contribution).  High fees may make this option an unattractive one.

3. Do I need the cash from the bonus payment for another purpose?

If you do not contribute your bonus to the savings plan, this will be paid out just like your normal paycheque.  However, there will be one key difference.  When the bonus gets paid out, there will typically be a withholding tax at a fairly high marginal rate, along with CPP and EI deductions.  Similar to the early RRSP withdrawal example above, this means that some of your money may be tied up until you file your tax return in 2021, for the 2020 tax year, and get your refund.

The Brass Tacks

RRSPs are powerful financial tools. 

The financial industry is full of intimidating salespeople.

The combination of these facts can result in some unwise decisions being made.

In order to determine whether contributing to your RRSP is the right thing for you, there are a number of important factors to consider.  You shouldn’t simply blindly contribute to your RRSP like the salespeople would like you to.

To discuss your tax and RRSP strategy for the coming year as part of a Fee-Only Financial Plan please contact us.

Did you find this blog post helpful?  Anything else you think that we should include?

Please let us know in the comments below.

If the pumpkin spice lattes, turkey comas, copper leaves and jack o’ lanterns weren’t a big enough giveaway, 2019 is coming to an end! As we get ready to unwrap a new calendar, it would serve us all well to pay a little attention to our personal finance to-do lists.  There are several opportunities that you could capitalize on before the end of the year that may disappear – much like the aforementioned espresso concoction.  So, don’t let your chance to make use of all that is available to you go to waste.  Here is your year-end personal finance checklist:

Employee Benefit Plans

Many of us have workplace benefit plans.  Most of those plans have spending limits that reset annually.  Use your coverage for massage, vision, dental, health spending accounts, etc. before they potentially expire forever at the end of the year.  Think of these as gift certificates that have an expiry date.  Schedule appointments to make use of them before they go up in smoke!  Why not give yourself a holiday bonus of a massage (that you are likely already paying for)?

Employer Pension Matching

Many employees are unaware that their companies offer a pension matching program.  The way that these programs typically operate is that your employer would be willing to match a certain amount of contributions that you make into the company defined contribution pension plan.  For example, if an employee contributes 5% of their pay, the company would contribute an additional 3% of their pay to the plan in their name.  This example equates to an automatic 60% investment return on your contributions!  Another way to look at it is that you would be receiving a 3% raise.  I don’t know anyone who is opposed to free money!

There is also a behavioural benefit of enrolling in these plans, as it is essentially forced savings.  The best way to change behaviour is to have it happen automatically.

Since this is the end of the year, your employer may offer a catch-up option if you were not participating in the program throughout the year.  This catch-up option may lapse at the end of the year, and like your benefits plan, the chance to gain from this offer may be lost forever.  As an added benefit, these contributions may be treated like RRSP contributions and could potentially increase your tax refund via the corresponding deduction from your income.  Win, win, win.

Related – The Biggest Money Mistake That You Might Not Even Know You Are Making

TFSA Withdrawals

Most of us know that additional TFSA contribution room accrues every new calendar year, but did you know that TFSA withdrawals are restricted annually as well?  Funds withdrawn from your TFSA cannot be re-deposited until the following year.  As such, if you are planning to withdraw funds from your TFSA early in 2020, you may be better off electing to do so before the end of the year.  This would allow you not to have to wait until 2021 to be able to have that deposit room made available to you again.

RRSP Planning

Will your taxable income change significantly in 2020, relative to 2019?  If your 2019 marginal tax rate will be greater in 2019, you may consider making additional RRSP contributions now to shield additional tax owing for 2019.  RRSP contributions are treated as a deduction from your income, which is one of the most powerful personal tax planning tools out there. 

An added benefit of this approach is that additional RRSP contributions made would also be increasing your tax refund, if eligible, or reducing the amount of tax payable for the year. 

On the flip side, if your 2020 tax rate will be much higher than 2019, you may elect to defer the deduction.  Contributions made in 2019 can always have the deduction deferred to your 2020 tax year, but they would still grow tax-deferred in the interim should you elect to defer the deduction — a true win-win.

All things being equal, additional RRSP contributions may be in your best interest, presuming you don’t need the funds until retirement.  RRSP contributions will also increase your tax refund (if you don’t have a balance owing) by your marginal tax rate.  That extra bump to your tax refund could also be the perfect kickstart to your TFSA contribution in 2020, as well.

As with all RRSP planning, your tax rate in retirement should be a key consideration. You can read my article in the Nov./Dec. issue of Canadian Money Saver magazine on how to Supercharge Your RRSP Savings.

Investment Mix

It’s been a bumpy ride for equity markets in 2019.  The ups and downs may have also had a significant impact on your current asset allocation.  Asset allocation is the distribution of your investments between various asset classes.  For example, a sample portfolio may have 60% Equities (stocks/equity ETFs), 30% Bonds, and 10% Cash and Short-term investments such as GICs. What this means, is that the swing in stock prices may have left your equity exposure too high or too low (i.e. 70% of your total portfolio instead of the 60% target).  Perhaps the gains experienced in early 2019 have offset the recent dip, but perhaps not.  Reviewing your asset allocation periodically, as well as re-assessing your risk appetite, are exercises that should be performed at least annually.

Tax Loss Selling

Given the bumpy ride of the market, you may have found yourself in an unrealized loss position in your stock or ETF positions.  Selling your underwater holdings for a loss would allow you to lock in the unrealized losses on your investments.  The realized capital loss could be used to reduce tax payable on realized gains in the current year. 

Note: This would only be applicable to non-registered accounts, as gains and losses in either TFSA or RRSP accounts are not taxable.

There is a caveat for this approach, however.  To avoid the loss being deemed a superficial loss by the taxman, you would not be allowed to repurchase the identical security for at least 30 days.  Also, in the case of ETFs, switching between two similar ETFs would also be deemed a superficial loss.  For example, selling an IShares TSX ETF and purchasing a Vanguard TSX ETF would be considered a repurchase of an identical security, despite them being different securities in reality.

You could also combine the previous two strategies above and sell your losers in an effort to rebalance your portfolio.

Assess The Impact Of Life Changes

Got married?  Had a child? Bought a home or new property? Started a business?

2019 might have been full of exciting changes.  All of which might impact your insurance needs and your estate planning.

Ensure that you have adequate life insurance to cover your new home’s mortgage or provide for your children and spouse.

Review your will to determine if your beneficiaries need to be updated, or if new significant assets need to be contemplated, like a new business or home.

This item may seem like there is no hard deadline like the end of the year, which is true.  However, with all of life’s uncertainties and surprises, this may be the most pressing of all.

The Brass Tacks On The Year-End Personal Finance Checklist

The prospect of a new year brings hope and optimism.  Make your 2020 resolution to take control of your financial wellbeing.  Not all of these ideas may be appropriate for your situation.  However, I hope that some of these may be useful for you to kick off the new year right!

If you would like assistance with the implementation of any of the above strategies, please don’t hesitate to reach out for a consultation.

Have a question or an idea for an article?  Let me know in the comments.

Eric Vallee’s article featured in Canadian Money Saver magazine.

You were a good citizen. You were organized, gathered all of your tax forms, receipts and filed your taxes promptly.

As a result, you are now the recipient of a nice chunk of change from Justin and the Premiers in the form of your tax refund!

Your tax refund might feel like free money, but it is not. In actuality, this is the repayment of an interest-free loan that you gave the government without even knowing it. Throughout the year, you either make periodic remittances if you are self-employed (or otherwise required) or you have tax taken off each paycheque by your employer. Your tax refund is the return of overpayments that you made relative to the income tax that you actually owed at the end of the year. Hence, this is why it is called a refund. Your tax refund was indeed your money all along.

But now, the big question is, “How should I use my tax refund?”

Before you buy that new iPad or fly to Jamaica, here are a handful of recommendations.

How You Should Use Your Tax Refund

1. Pay Down Consumer Debt

Consumer debt is debt related to consumption, instead of debt that is tied to an asset that can appreciate.

This is priority #1. This would likely be priority #1 on any list for that matter.  Paying down your consumer debt is so important that it should likely be #1, #2 and #3 on this list.

This prolonged low-interest rate environment that we have lived in seems to have lulled many Canadians into a false sense of security around carrying consumer debt. According to the 2018 BDO Affordability Index, 46% of Canadian households don’t earn enough income to live debt free.

But not all debt is created equal. The largest area of concern is high-interest debt.  High-interest debt generally comes in the form of credit cards (up to 20% APR), payday loans (>100% APR and upward), and high-interest lines of credit (10% APR or more).  Rates mentioned are illustrative and not a minimum threshold for concern.

If you are carrying high-interest debt, paying it down will almost always be the best use of your funds. You should focus on paying down your debt with the highest interest rate first.

In essence, consumer debt is what you owe for the material things or that you already have or the experiences that you have already had. To put it another way, instead of using your tax refund to buy an iPad, you still need to pay for the iPad that you purchased years ago.

2. Open An RESP For a Family Member

Education costs are continually on the rise.  A year of post-secondary education at a Canadian university can cost up to $20,000. Starting to save early in a child’s life is prudent given the rising costs.

RESPs are an excellent way to save for a child’s education for a few reasons.

• Free Money!

The Government of Canada matches 20% of your contributions, up to a maximum of $500 per year. This is called the Canada Education Savings Grant (CESG).

There is also lifetime maximum for CESG contributions that the government will make of $7,200.

• Tax-deferred investment growth

Money held within an RESP grows tax-deferred. Similar to an RRSP, all of the growth of the funds within the RESP has the benefit of tax-deferred compounding. Tax-deferred investment growth has been proven to be a winning wealth builder.

• Taxed in the hands of the beneficiary

Unlike an RRSP, contributions made by yourself into the RESP are not deductible from your income. As such, you will be contributing after-tax dollars into the account, similar to a TFSA.

However, the CESG amounts and the investment income are then taxed in the hands of the beneficiary (i.e. your child or niece/nephew) upon withdrawal. This can provide significant tax savings. Students are typically in a low-income period of their lives during schooling, and they should generally be in a lower tax bracket than the contributor during this time.

These advantages should be capitalized on early and often in the life of the beneficiary to maximize the CESG and tax deferral. Use your tax refund to start an RESP and take the free money!

3. Contribute to your RRSP/TFSA

If you don’t require the free CESG money for a family member, you can shift your attention to your personal savings.

Whether you contribute to your TFSA or your RRSP will vary based on your individual situation. I prepared a rundown on things to consider when answering the question, “Is an RRSP contribution right for me?”

When making your determination of where to put the money, the primary question that you should ask is “When will I need the money?”

Funds in your RRSP are intended for your retirement, but they could also be withdrawn to buy a home using the Home Buyers Plan or to go back to school via the Lifelong Learning Plan.

Another perk of an RRSP contribution is that it can increase your tax refund for next year if you deduct it against your 2019 income.

If you need this money for the near term (other than for purchasing a home or for going back to school), TFSAs provide added flexibility around withdrawals. This is an ideal place to keep your emergency fund. If you do not have an emergency fund in place, then bump this up ahead of the RESP plan in terms of priority.

If you have questions around what option is best for you, you should speak with a financial planner.

4. Mortgage Paydown

The market is sending mixed messages about where interest rates are going in the intermediate term. However, we know that we have been experiencing a prolonged low-interest-rate environment.

The party should come to an end sooner-or-later, and rates could rise.

There are a few key benefits to paying down your mortgage:

• Defence against rising rates

As rates rise, so will your mortgage payments on a variable mortgage. Even if you have a fixed rate mortgage, it will come up for renewal inevitably, and all else being equal, your payments will increase along with the interest rate.

• Guaranteed rate of return

Let’s assume that you have a mortgage rate of 3.5%. By paying down a portion of your mortgage, you have just achieved a guaranteed after-tax return on your investment of 3.5%! I challenge you to find a guaranteed investment that will pay you that rate of return after-tax.
This guarantee, however, doesn’t contemplate foreclosure risk, or any of the other risks associated with homeownership. That said, paying down your mortgage is an excellent way to achieve your long-term financial goals.

• Lower monthly payments

As you lower your outstanding balance, your monthly payments become lower.  Some mortgages implement these changes immediately, while others will update the payments a set interval.  In either case, when you have less to pay back, you can pay less each month.

• Mortgage renewal flexibility

A lot of digital ink has been used lately discussing the challenge that some are facing renewing their mortgages.

The Government of Canada introduced rules to stress-test an individual’s ability to afford their mortgage payments when rates rise. As interest rates rise, so does the benchmark rate for the stress-test.

By paying down your mortgage, your outstanding balance and future payments will be reduced, and this will ease the challenge of meeting the stress test.

When deciding whether or not to use your tax refund to pay down your mortgage, you should investigate the repayment terms before making your decision. Some are flexible, while some are stringent and may come with fees or penalties. Speak with a professional to understand the implications of making a pre-payment against your mortgage.

5. Get a Fee-Only Financial Plan

Naturally, this is a self-serving recommendation, but I wouldn’t be doing my job if I didn’t mention it.

A financial plan is an investment in your overall financial well-being.  Having a solid financial footing sets you up for success in all other aspects of your life.

A good financial plan can help you better understand your spending, ensure that your investment mix matches your risk tolerance, identify if your current savings will allow you to reach your goals, assess your risk management, or map out how to make your savings last through retirement. And let’s face it, if you are reading this article, then you probably have questions about how to optimize your financial situation.

A financial plan can also help you assess each of the above options for the use of your tax refund based on your individual situation.

An additional benefit is that many of Novel’s clients have been able to achieve significant savings on their investments by executing a Novel Fee-Only Financial Plan. This ultimately means that, depending on your current investment products, the cost of a fee-only financial plan can pay for itself, even in the first year!  Investment options that can pay for themselves tend to be few and far between in this day and age.  Taking steps to secure your financial well-being is an excellent use of your tax refund.

The Brass Tacks On Using Your Tax Refund

Don’t be so quick to spend that tax refund. After all, it was your money to begin with, not the government’s. There are several things that you can do to put that money to work for you.  Each of the options have pros and cons, and they may not all be appropriate for your situation. Resist the urge to spend it frivolously and instead use your tax refund wisely. Then again, sometimes you just need to go to Jamaica.

If you would like to schedule a free consultation to discuss your options for maximizing the use of your tax refund, please contact us.