What you should know about RRSPs and RRIFs

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Dollars and Sense by David Deacon

David Deacon

Registered Retirement Savings Plans (RRSPs) are accounts opened at financial institutions into which you may deposit money, up to your annual maximum limit, and receive a tax deduction for the full amount of your deposit.

The money, once deposited, can be invested in most financial securities, including stocks, bonds, mutual funds, GICs and ETFs. The investments grow, tax free, within the RRSP account and are taxed only when withdrawn.

Ideally, contributions are made when the investor is in his or her high earnings years and, subsequently, high tax bracket, and withdrawn at retirement when earnings, and the tax bracket, are lower. Contribution limits are based on 18 per cent of the previous year’s earned income and are displayed on your income tax notice of assessment annually.

Investors who do not maximize their contribution limit in any year may carry that amount forward and add it to next year’s limit. This year’s contribution deadline for a 2012 tax deduction is March 1, 2013.

In many cases, it may be worthwhile borrowing to contribute to an RRSP. Investors who do so should consider applying any tax refund received immediately toward the loan, then set up a monthly repayment plan.

Above all else, great care should be taken to ensure your RRSP money is invested wisely. I speak to many people who feel satisfied with having made an RRSP contribution, but do not have a good understanding of how it is invested and how it is performing. The rate of return on your investments in your RRSP will have a huge impact on the eventual value of the account in retirement. Insist on knowing the performance numbers and the applicable investment management fees. If you are not satisfied with the answer, shop around. RRSP accounts can be transferred to other financial institutions without tax consequences.

RRSPs must be closed by Dec. 31 in the year the account holder turns 71. Most RRSP account holders choose to convert into a Registered Retirement Income Fund (RRIF) at that time. An “in kind” transfer enables you to keep your investment portfolio intact and growing, tax sheltered. RRIFs differ from RRSPs in that the account holder must draw an annual, taxable income from the RRIF, starting by Dec. 31 of the year the account holder turns 72. The minimum in year one is 7.38 per cent of the value of the account on Jan. 1 of that year. There is no maximum. However, you will be taxed on the withdrawal, so consulting your investment advisor and accountant prior to that decision is advisable.

 

David Deacon is a Portfolio Manager with Raymond James ltd., The views of the author do not necessarily reflect those of Raymond James. This article is for information only. Raymond James Ltd.  Member-Canadian Investor Protection Fund

Organizations: Registered Retirement Savings Plans, Registered Retirement Income Fund, Raymond James

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