It’s once again the season to talk about your Registered Retirement Savings Plan – otherwise known as RRSP Season!
Between Christmas and the end of February, there’s generally a plethora of advertising about the importance of funding your RRSP. So I’m putting my $0.02 into the mix too!
An RRSP is a tax-deferred way to grow your money. An RRSP is a registered account. This means that once you’ve opened an RRSP, you can deposit money into it and watch that money grow without taxes until you take it out. The point at which you withdraw your money is the point at which you’ll pay the taxes owing. In other words, your taxes owing on the growth inside your RRSP are deferred until you take that money out.
The deadline for contributing to your RRPS for the 2019 tax year is March 2, 2020. Our dear, sweet government gives you an entire year + 60 days into the following year to contribute to your RRSP. Whatever you don’t contribute in one year will rollover into the following year’s contribution.
In an ideal world, you would contribute your maximum every single year. Your RRSP would be chock-full of the perfect investment earning you a return of 15%, year-in-year-out! It would be a world of sunshine and lollipops, rainbows, puppies and kittens galore! Who wouldn’t want to live in the kind of world?
Most people do not make the maximum contribution to their RRSP every year.
So what to do?
Contribute what you can. If that’s $50 per week, then that’s $2,600 per year. If it’s $50 per month, then that’s $600 more than $0. Find a way to squirrel away as much as you can into your RRSP. The sooner you start contributing your RRSP, the sooner you can start investing your money within this registered account. Consistency is one of the keys to building wealth over time so start as soon as you can.
If you open an account with Canada Revenue Agency, you’ll have access to your personalized RRSP contribution limit. If this amount is more than you can contribute in one year, then figure out how much of a contribution you can make. Take that number, divided it by the number of times that you’ll be paid and set up an automatic transfer so that a portion of your contribution is sent to your RRSP every time you get a paycheque.
Let’s say you can afford to put away $3200 in 1 year and you’re paid bi-weekly. That means you’ll get 26 paycheques in one calendar year. This works out to $123.08 per paycheque, which is equivalent to less than $10 per day. Set up an automatic transfer of $123.08 from each paycheque and you will have found the money for your RRSP contribution.
And if you can afford more, then I would suggest that you contribute more. I’m still of the view that stuffing your RRSP full of money is a far better option than retiring with an empty RRSP. And since I’m not a tax professional, I’m going to recommend that you do your due diligence – which is a fancy way of saying do your own homework – and learn about RRSPs, their benefits, and how they can work to minimize poverty in old age.
How do I invest in my RRSP?
The automatic transfer ensures that you’re saving money so that you can contribute to your RRSP. Once the money is inside your RRSP, you still have a responsibility to yourself to invest it. The money can stay inside your RRSP until your 71 years old so you have may have several decades before you’re forced to withdraw it. An investment period this long is best used by investing in equity products that offer the best likelihood of higher growth.
You can invest in index funds, exchange-traded funds, mutual funds, individual stocks, bonds, guaranteed investment certificates, and high-interest savings accounts. To be very clear, it’s my personal opinion that GICs and HISAs are inappropriate for your RRSP money. The rates of interest offered on those products will not keep up with inflation. By failing to keep up with inflation, your RRSP money will consistently lose purchasing power over the years. This is a very bad thing!
In my opinion, you’re going to want to invest in index funds and exchange-traded funds that are equity based, which means that they invest in the stock market. If you don’t know where to start, check out the Canadian Couch Potato website and the model portfolios that are discussed.
Once the money is in your RRSP, do whatever you can to leave it there. Your RRSP is not a savings account. Do not treat it as an emergency fund! Life has a way of getting the way of plans, but I want you to do whatever you can to leave your RRSP money alone to grow over the years between today and retirement.
What if I get a tax refund?
Remember how I said that RRSP contributions are tax-deferred? That means that you get a tax deduction for contributions that you make to your RRSP. Depending on your tax situation, you might be entitled to a tax refund after you’ve contributed to your RRSP.
This is your money to be spent however you see fit. Yet… if you’re looking for ideas of the best use of this tax refund, here are my suggestions.
- Pay off or pay down outstanding credit card balances, student loans, or any other debt you may have.
- Put the tax refund right back into your RRSP, so long as doing so won’t take you over your maximum allowable RRSP contribution limit.
- Put the money into your TFSA so that you can maximize your contributions to all of your registered accounts.
- Contribute the money to non-registered investment account.
- Use the money to treat yourself to something nice – a day at the spa, a weekend road trip, travel, whatever you want.
At the end of the day, what you do with your tax refund is entirely up to you. After all, it’s your money and personal finance is indeed quite personal so you get to spend your money in any way that you think is best.
The RRSP is a Gift
Speaking from personal experience, I can tell you that from the tiniest little seed does a mighty oak grow. I started my own RRSP over 25 years ago. Each year, I contributed as much as the CRA would allow. Today, this portion of my retirement kitty is over six figures. My money is invested in a mix of exchange-traded funds – split between bonds and equity. Slowly but surely, the money is growing and I should have a nice little cushion when it’s time for me to hang up my gloves.
Use your RRSP to save for your future. It’s one of the best tools available for growing your money. When you’re old, you’ll be quite happy that you have money set aside for your dotage.
***************
Weekly Tip: Always re-invest the dividends and capital gains that your portfolio earns. This is where the magic of compound growth makes a huge impact. Use Dividend Re-Investment Plans whenever you can. Relying on a DRIP along with consistently saving and investing a portion of every paycheque is one of the tools I used to build my Army of Money Soldiers.