Registered Retirement Savings Plan
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A Registered Retirement Savings Plan or RRSP is a Canadian investment account that provides some tax benefits for saving for retirement in Canada. RRSP refers to a provision in the Income Tax Act that allows a person to shelter financial property from taxes.
Examples of financial property that can be used with an RRSP are: mutual funds, shares in a company (stocks), bonds, mortgages, Labour Sponsored Investment Fund and GIC's.
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Terminology
- Contributor
- The purchaser of the RRSP
- Annuitant
- Generally, the person for whom the plan provides income. Usually but not necessarily the contributor. See Spousal RRSP
- Deduction Limit
- The maximum amount of RRSPs that can be claimed on a tax return.
- Home Buyer's Plan
- A program to allow "First-Time Homeowners" to borrow from their RRSP to buy a home.
- Life-Long Learning Plan
- A program to allow individuals to borrow from their RRSP to go or return to post-secondary school.
Calculating RRSP Deduction Limit
A deduction limit is generally calculated as 18% of a person's earned income from the previous tax year, minus any "pension adjustment", up to a specified maximum. This specified maximum has been rising, for 2004 the maximum was $14,500, for 2005 it was $15,500, and in 2006 it was $18,000. After that, it is supposed to be subject to inflation. Any RRSP deductions not taken in a tax year are carried forward indefinitely to future tax years. So, for example, if a person's RRSP deduction limit is $8,000 and he contributes only $3,000, the unused $5,000 deduction is carried forward. Furthermore, it would be increased by the deduction limit as calculated by the formula above.
After filing a tax return (or any adjustments to the tax return), each tax payer receives a Notice of (Re)Assessment from the Canada Revenue Agency, indicating their new RRSP deduction limit.
Limits on purchase
RRSPs can be purchased until the annuitant is aged 70.
While it is possible to purchase more than the contributor's deduction limit, it is generally not advised as the excess amount (presently $2,000 over the deduction limit) is subject to a significant penalty tax removing all benefits.
RRSPs purchased within the first 60 days of the calendar year may be used for the previous tax years. All other purchases may be used in the same calendar year or held for future use.
Spousal RRSP
A Spousal RRSP allows a higher earner to contribute to an RRSP in the spouse's name. The spouse can withdraw the funds, subject to tax, after a holding period. A spousal RRSP is a means of splitting income in retirement: By dividing investment properties between both spouses each spouse will receive half the income, and thus the marginal tax rate will be lower than if one spouse earned all of the income.
After Age 69
Before the end of the year the annuitant turns 69, the RRSP must be cashed out or transferred to a Registered Retirement Income Fund. Any amount cashed out from an RRSP or redeemed from an RRIF is fully taxable. However, investments held in an RRIF can continue to grow tax-free indefinitely, as long as a minimum required portion of the account is redeemed every year. At that time, an individual's income is expected to be lower and therefore subjected to less tax.
Self-Directed RRSP
Many RRSP's are simply registered mutual funds. A "self-directed" RRSP is essentially a trading account at a brokerage which has tax-sheltered status. The holder of a self-directed RRSP instructs the brokerage to buy and sell securities on their behalf as with any brokerage account.
Caution
The above is not intended to replace tax or investment advice. It presents an overview of the topic only ignoring several areas, including certain penalties and risks involved with RRSPs. See Canada Revenue Agency's web pages on RRSP or a Tax Preparer for more information if preparing a tax return and details of RRSP penalties. See an Investment Advisor for information on risks of investing.
See also
- RRIF (Registered Retirement Income Fund)
- Individual Retirement Account and 401(k) (United States)
- Labour Sponsored Investment Fund, a form of investment which may be included inside an RRSP for further tax credits.
- Retirement plan