Even though we may think we’re familiar with these vehicles, many advisors will tell you that myths persist. So let’s set the record straight by addressing some common misconceptions.
Myth no. 1 - The RRSP is an investment
The RRSP is a savings plan registered with the Canada Revenue Agency, and contributions to it are deductible from taxable income; so you can put money aside and increase it on a tax-sheltered basis. The RRSP itself is not an investment. Rather, it’s a vehicle in which you can hold different types of investment, such as mutual funds. What you hold in your RRSP depends on your investor profile.
Myth no. 2 - The RRSP can wait because retirement is a long way off
If many years still separate you from your very last day of work, you may think that planning your retirement isn’t a priority.
But contributing to an RRSP as soon as possible can be very advantageous. When it comes to investing, time is a powerful lever. To accumulate the same amount of capital, a person who is 25 years old needs to make far less effort than someone who is 45. The sooner you start, the less you’ll need to contribute and the more you’ll end up with!
So what is it that makes the difference? The compounding of your return. You earn a return on the capital in your RRSP but also on the earnings that are generated by it and accumulates over time.
Myth no. 3 - The RRSP isn't especially advantageous because withdrawals are taxable
If this misconception is preventing you from contributing to an RRSP, two arguments could change your mind:
Deductibility of contributions
Contributions to an RRSP reduce your net income, and the returns on your investments are tax sheltered. Before putting your money into a non-registered savings account, you’ll be taxed on it. And the income from your investments will also be taxed. Not the best deal.
In addition, because RRSP contributions reduce your taxable income, they can increase your chances of obtaining, or even increasing, government benefits or credits you may be entitled to.
Deferred income tax
A contribution to an RRSP reduces your taxable income. In reality, you’re deferring payment of income tax. The advantage is that most contributors will be in a lower tax bracket in retirement than they are when they contribute, so they’ll pay less tax. It’s one way of saving money.
Myth no. 4 - The TFSA allows unlimited withdrawals with no consequences
Not quite. You have to pay attention to the annual contribution limit. If you exceed your limit, you’ll get hit with a penalty of 1% a month on the amount over the limit, until it’s withdrawn from the TFSA.
Moreover, any amount withdrawn from a TFSA is added to the contribution limit for the following year. You will have to wait until January 1st of the next year before recontributing any money you have withdrawn. Given that the benefit of the TFSA is that your savings and the income they generate can grow tax-free, the goal is to leave your money in the account as long as possible so that it generates income.
Above all, an excessive number of withdrawals could attract attention from the tax authorities; if you create the impression you trade for a living, you could be penalized. Don’t forget that the TFSA is for individuals.
Myth no. 5 - The returns generated in a TFSA reduce your contribution limit
Actually, it’s the opposite. The fruits of your investments can, in a sense, increase your annual contribution limit the following year. For example, if you withdraw the invested capital plus interest, namely the balance at its fair market value, you could redeposit the entire amount into the TFSA on the following January 1.
Myth no. 6 - The amounts deposited into a TFSA are taxable on death
If you die, the amounts accumulated in your TFSA are not taxable, and your heirs will benefit from them. However, from death until settlement, the returns are taxable to the estate.
An advisor can help
Each case is unique. That’s why it’s important to seek guidance from an advisor when you want to develop a savings strategy. To obtain sound advice, regardless of your situation, contact the Advisory Services of FÉRIQUE Investment Services. The team of Advisors and Mutual Fund Representatives have the tools to help you build a solid financial plan and a diversified portfolio. They can also advise you on how to optimize your financial situation and increase your savings.