RRSP basics: Why and how to save
CPP is unlikely to cover your all retirement expenses, so start saving
The credit card bills are trickling in from your December spending and it's time to take a close look at registered retirement savings plans.
Every Canadian with taxable earnings is eligible to put money into an RRSP, up to a maximum of $24,930.
And the beauty of the investment is that the money you invest is deducted from your 2015 income, meaning you will pay less tax for 2015 and possibly get a refund.
RRSP investments made in January or February apply to the previous tax year, which is why many people scramble in January and February to scrape together money for a contribution. The deadline is Feb. 29.
Why save in an RRSP? The simple answer is that, when it comes time to retire, you don't want to be poor.
How well can you live on CPP?
That's because, unless you are accustomed to living on a very low income, the Canada Pension Plan and Old Age Security benefits will likely not be enough to support the kind of life you would like to lead in retirement.
If you retire this year after paying into CPP for 39 years, your benefit will be $1,065 per month, and OAS may be additional $570 a month – that amounts to $19,620 a year, though some, mainly single people will also be eligible for a Guaranteed Income Supplement that tops up the income.
Canadians spend more time planning their family vacation than the rest of their life.- Tony Maiorino, RBC Wealth Management
That is the maximum, which few people receive, because of periods in their earning years in which they made little money or spent time out of the workforce.
Some more fortunate Canadians are covered by a workplace pension, though these are becoming less common. In 2011, Statistics Canada found than just 37 per cent of men and 40 per cent of women had some kind of registered pension plan in the workplace.
So that leaves just your savings to get you through the years from when you leave the workforce to when you leave this life.
Saving for retirement is less likely to be a cause for anxiety if you have a plan, says Tony Maiorino, vice-president and head of wealth planning services at RBC Wealth Management.
You need a plan
"The baby boomers will create a mass exodus from the workforce in the coming years, but they often don't know what they actually need financially," he said.
"Canadians spend more time planning their family vacation than the rest of their life," he added.
He urges Canadians to think about both their financial well-being and what they're going to do with their time.
Just under six million tax-filers contributed to an RRSP in 2013, or 23.4 per cent of individuals who filed returns.
The median contribution was $3,000, up 2.4 per cent from 2012. Total contributions were $37.4 billion.
While that sounds like a lot of money, very few Canadians put the maximum amount in their RRSP — 18 per cent of income throughout their working life.
Financial advisers tell you to start saving early to make the most of compounded growth of your money. However, life often intervenes.
In your 20s you may be earning too little, in your 30s and 40s, you'll be buying a home and raising young children, both expensive propositions. So most Canadians can't start saving in earnest until they reach their 50s — at which point retirement starts to seem like an achievable goal.
Use your contribution room later in life
Which brings out another benefit of the RRSP: any contribution room you did not use in prior years accumulates and you will end up using it later in life when your income is higher and the tax break becomes especially welcome.
Because funds in an RRSP grow in a tax-sheltered environment, they can balloon to an impressive figure without the nuisance of having to pay tax every year on all that growth.
For instance, depositing $5,000 a year each year for 25 years into an RRSP will yield an account worth almost $280,000, assuming five per cent annual compounded growth. Make it eight per cent, and your nest egg grows to almost $420,000.
Imagine what that cash could mean over the 20 to 30 years you may live past retirement: a little travel, keeping up your home, charitable giving, help with health problems.
Of course, the effects of 25 years of inflation will mean that the nest egg's buying power in 2040 won't be as dramatic as it was in 2015. And when it comes to time to convert that RRSP into a RRIF or annuity and withdraw the money, those payouts will be taxable.
Pay tax when you're retired
RRSPs have come under criticism as a savings vehicle in recent years because your withdrawals are taxable. The prospect of paying taxes later in life on those earnings shouldn't discourage most people, though. You will likely move to a lower income bracket after retirement.
At this time of year, Canada's financial industry will be exhorting you to save in an RRSP. Everyone from independent financial advisers to financial planning firms, mutual fund companies, discount brokers, banks, insurance companies and credit unions are eager to win your investment dollars.
They earn fees and commissions on your investment money, as well as winning a longer-term relationship with you as your money grows.
But the real reason to save is to prepare for your own future.
It can be hard to look long-term when you're busy coping with the present, but for middle-class Canadians, there are few more advantageous deals.
The RRSP savings habit is an expression of confidence that you're going to live well in your later years.