Well it’s official folks – the major financial institutions have decided on our collective behalf that RRSP season is upon us. If you and your spouse don’t slip into RBC sometime soon (say before March 1) to drop an unplanned lump sum into the latest can’t miss investment – well then you just don’t get it (read: sarcasm) and clearly missed from the commercials just what a party those meetings are! Ok with that out of the way, my aim is that these points speak to the average everyday RRSP investor. Here goes:
There is no such thing as “RRSP season” for the astute investor.
This so-called season was the creation of sales departments of the major financial players (who for balance do some great work for clientele), to well, quite simply sell product and churn commission revenue. So how does an astute investor operate? They are continuously saving and investing according to a “pay yourself first strategy” as outlined in a documented plan which preferably comprises an investment policy statement. This is beneficial in a number of ways: 1) with the money coming right off your pay cheque, it maximizes savings rather than a “best efforts” approach which typically equates to seeing what you can scrape together before the RRSP deadline; 2) allows for dollar cost averaging which minimizes the impact of downturns in the market. Looked at another way, large lump sum contributions are vulnerable to the market tanking right after being invested; and 3) investment selection is based on predetermined parameters which takes the emotion out of the process and helps avoid “flavour of the month“ type offerings. To close out this point, I will say that last minute lump sum RRSP contributions can still have merit and are certainly better than nothing at all. Just be sure they fit into a broader long-term plan.
What is the best way to maximize my RRSP investment return?
Answer: take advantage of employer incentive programs which provide for employer funded RRSP contributions. A more conventional answer may have pointed to a specific investment product but think of it this way – a matching employer contribution garners a 100% investment return right out of the gate and no risk (threat of loss) is taken. Leaving this money on the table is a sure fire way to Kraft Dinner in your 60s and beyond (not that there’s anything wrong with this so long as it is by choice rather than necessity). These programs can look complicated on paper and are not always fully vocalized by employers. Many provide a 200 page manual on your first day and never say a peep more. Don’t waste much time combing over the detail and jargon.
Instead assert your employee right and setup a meeting to discuss with someone in HR. Anecdotally some HR employees prefer to do the bare minimum of pointing out a few sections in the 200 page manual and exchanging a few cryptic emails. Hold their feet to the fire and setup a meeting that goes as long as needed to give you a clear picture of incentives available. Even consider bringing your investment advisor along for the ride. Arguably the downside here is that contributions must be made to investment funds selected by your employer which may not have been your first investment choice otherwise. That said most have variety and “good enough” options can be found. Especially when considering the instant return being the employer’s contribution. Make sure you understand the fee structure as well.
Should I screw up my retirement savings plan and take advantage of the (awful) home buyers plan (HBP)?
Wait for it…here it comes…NO (was that a leading question?). There is certainly more positive than negative sentiment out there on this government program. If one considers however, that on long-term average, homes appreciate around inflation, say 2-3%, and the TSX with reinvested dividends has been closer to 10%, it’s a no brainer. Now this of course considers only pure investment return (and aggregated outcomes) and ignores things like one’s living arrangement. Without getting too deep into another topic altogether, renting is becoming a more and more viable option with the inflated home prices in the market. The take away is this: before using the HBP, take a hard look at how it will stunt your investment growth (compound interest people!) and attractiveness of rental options. Home appreciation isn’t a guarantee (nor is the stock market) but I’ll tell you want is: land transfer tax, legal fees, and sales commissions etc. when transacting in real estate. Full disclosure – I used the HBP and it absolutely hurt my retirement savings. Call me a hypocrite but you can’t put a price on a downtown Toronto condo party right? I’m sure my sleep deprived neighbor would agree.
We (spouses) are planning modest RRSP contribution this year, well below our collective contribution room; do we need to worry about spousal contributions?
Well, not as imperative as it was before the pension income splitting rules came into effect (I’ll come back to this), it is still the prudent thing to do. Ignoring the pension splitting rules for a moment, the goal is to keep the two RRSP account balances on par. This allows for comparable income in retirement when the RRSP savings are withdrawn and taxed. On balance, the collective tax bill is lower when each spouses’ income is equal or thereabouts. The alternative and adverse scenario arises when one RRSP account becomes significantly higher than the other. The potential downside is that that on withdrawal in retirement, the higher saver is forced to take more income and is pushed into a higher tax bracket(s) then the spouse with fewer savings.
Okay, back to the pension income splitting option. Spouses (and common law partners) are able to split 50% of their pension income which includes RRSP withdrawals. Therefore, spouses can achieve perfect income integration after the fact with this mechanism and don’t need to worry about balancing out the contributions along the way right? In one sense…wrong! Income from RRSP withdrawals can’t be split until age 65. Therefore unbalanced RRSPs will hurt (more tax) for couples retiring before 65 and needing to dip into their RRSP. Plan for this possible scenario by keeping accounts on balance (the effort to do so is literally a few minutes each year). The real key when RRSP contributions cannot be maxed out is to ensure the higher income earner makes the contribution. As they (in many cases) are in a higher tax bracket, the after-tax benefit of the contribution will be higher. Keep in mind that the tax deduction on spousal RRSPs is taken by the contributor (which should be the higher income earner). For the keeners out there, also plan for other non-pension sources of income in retirement; keeping in mind the goal of equal income.
As a final final point, remember that RRSP contributions are only on par with TFSA contributions and accelerated mortgage repayments when the refund generated by the contribution is immediately reinvested (taxes and interest rates held constant). If the refund is turned into that last minute Caribbean getaway you didn’t need (can’t afford), RRSP was not the way to go (but can you pick me up some duty-free?).
Let’s all celebrate the holiday season this year and skip over permanently the facade that is RRSP season.
The author, Pat Kenney, is a Certified Professional Accountant. He has worked in public practice at a local boutique CPA firm in Mississauga for 9 years. He currently holds a senior management position.by