I had recently written a post about common RRSP Facts and FAQs. Since we are entering the biggest RRSP month of the year (deadline to contribute for tax year 2009 is March 1st 2010), I thought of taking a look at some RRSP strategies and RRSP basics.
No, this wasn’t an evil invention by mutual funds’ companies or Canadian banks ;-). The Government created the RRSP to give everyone the chance to build a comfortable retirement. An RRSP account allows investments to grow tax free while reducing your tax exposure according to the RRSP contribution of the individual. At retirement, when your marginal tax rate could be at its lowest, RRSP withdrawals become taxable.
Some say that you should put all your fixed income into your RRSP for tax optimization. Some other say that since you have several years before your first withdrawals, you should invest in an aggressive portfolio and let the stock markets work its magic. I’d say that you should always consider your investor profile and invest according the asset allocation you have chosen.
If you are looking into a retirement perspective, investing in your RRSP or your TFSA will create about the same results. While the RRSP gives you’re the opportunity to get your tax return right away, you won’t be taxed on your TFSA withdrawals at retirement. Personally, I would stick with the RRSP’s for retirement and use my TFSA for other projects.
Depending on your financial situations, you may find some interesting RRSP investment strategies that can help you save a lot of money:
A long time ago, I wrote about the double dip strategy. This RRSP strategy consists of reinvesting your tax return into your RRSP every year. Therefore, if your marginal tax rate is 40% and you contribute $10,000 to your RRSP, you should save $4,000 in taxes. Use this very same amount to contribute again to your RRSP and you will get an additional $1,600. So with a 10K contribution, you generate a tax return of 5,6K which is 56% taxes saved. Not bad, huh?
Several financial advisors will recommend that you take an RRSP loan if you don’t have the money to contribute to your RRSP. While this technique will allow you to receive a bigger tax return right away, you should think twice before taking an RRSP loan. Why? Simply because if you can’t pay this loan back within 12 to 24 months, you are paying too much in interest and you would be better off with a systematic investment. You won’t get a huge tax return if you invest $400 per month into your RRSP but you will end-up with a better return over 5 years than taking a RRSP loan with similar payments.
This is a very interesting strategy as it is used to boost your cash down for first home buyers. If you have a marginal tax rate of 40% and you have 20K RRSP unused contributions, you can take a 20K RRSP loan before buying the house. Under the HBP, you are allowed to withdraw your RRSP investments to buy a property tax free (as long as the money had stayed in your RRSP account at least 90 days). So you withdraw your 20K and payback the loan. Why do this? Because the 20K contribution will generate a 8K tax return the very same year. Therefor, you will have 17 years (15 years + 2 years of grace period) to put back the 20K in your RRSP account and you will benefit from an additional 8K right away to purchase your property. More info can be found in Million Dollar Journey’s post about HBP plan.
This investing strategies is relevant only for investors who have a significant amount of money invested in both registered and non-registered accounts. The strategy is fairly simple but it is too often forgotten. Using your track investment apps, you should be able to determine your global asset allocation. Then, you simply have to maximize the amount or fixed income in your RRSP and increase your equity portion in your non registered account. For example, if you have a overall balanced portfolio (50% fixed income / 50% equity), you should show a conservative portfolio in your RRSP (75% fixed / 25% equity) and an aggressive investment strategy in your non-registered account (25% fixed / 75% equity)(assuming that both accounts represent 50% of your total investment). If you are not sure about how to do it, you can use bank investment services.
For young (and not so young) investors, the bi-weekly RRSP contribution is definitely the best investment strategy you can put in place. While you won’t even notice that your RRSP contributions are made, you will build a strong portfolio and absorb market fluctuations. So if I have one advice for 2010; this would be it!
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