Week 8 - RRSPs Part 3

This is going to be a two-post week. I don't know if I'm alone on this one but the Family Day short week kind of threw me off. That, and I think I've watched about a hundred hours of the Olympics. I go to bed and all I think of is the speed skating oval or the downhill race course. It's like when you play too much Tetris and then all you see is the little blocks falling when you're trying to fall asleep. Maybe that's a bit sad, huh? A little FYI about the Canadian team thus far: we have approximately twenty 4th or 5th place finishes; so close and yet, so far... Anyway, my apologies for all of you who are hanging off my every word each week. After all, we know what a riveting topic personal finance can be, right?

This will be the third and final installment on RRSPs, meant to be short and sweet. We've looked at the benefits of contributing to a RRSP, as well as a few different ideas as to what we could do with our contributions. Now we'll look at a few final details around these accounts, in chronological order.

First we open the account, then we contribute each year, hopefully growing our accounts over time to be used for retirement. But there are a few other ways we can use our RRSPs before we retire.

1) First Time Home Buyers Plan. Basically, we are allowed to take money out of our RRSPs to buy our first home. It is a tax-free, interest-free loan that we make to ourselves. We take out the money for our down payment (up to a $25,000 maximum) and then we have 15 years to pay that loan back. Here's a good website for all the details of this option: http://www.taxtips.ca/rrsp/homebuyersplan.htm

2) Education. If, down the road, you decide to get back learning but need an investment in yourself to get going, then you might be able to use your RRSP to help fund your education. Like the home buyers plan, you have to repay the money, albeit within ten years of withdrawal. Here is the link for more information: http://www.canlearn.ca/eng/lifelong/llp.shtml

After deciding whether or not to use these options, it's the waiting game. We can take money out of our RRSP whenever we want, although we have to pay income tax on the money when we do it. So unless you aren't paying much tax and need the money desperately, it probably makes sense to let the fund grow until we have to withdraw them in retirement.

Conversion to a RRIF

Unfortunately, even if we don't need the money, we can't keep letting our RRSPs grow indefinitely. In the year we turn 71, we have to convert our RRSPs to Registered Retirement Income Funds (RRIFs). The following year, we will then be required to take out our first annual RRIF payment. This payment is a percentage of the total value of the RRIF, as of December 31st of the previous year. For example, if you turned 71 last year and on December 31st, your RRIF was worth $500,000, then you would use that number to calculate the amount you are required to take out this year. The following link is the percentage table that you use to determine your RRIF payment: http://www.ecgi.ca/rif_schedule.html

As you can see, you can convert your RRSP to a RRIF before age 71, but you need to do it by age 71.

Beneficiaries of your RRIF

A nice feature of any registered account is that you can name a beneficiary that will inherit your account if you die. This way, your account doesn't get left to your estate, which would have left it open to probate fees. Be sure to name a beneficiary on your account when you open it, as long as it's a registered account (RRSP, TFSA, etc). If your spouse is your beneficiary, he or she does not have to pay tax on the account either, when you die; another benefit of the RRSP. However, if you are leaving your RRSP or RRIF to your kids or anyone else, they will have to include that account as income for the year you pass away. Still, they will not have to pay probate fees.

Be sure to keep your beneficiary updated, too. From time to time, family situations change and I suspect you wouldn't necessarily want your ex to still be the beneficiary of your RRSP if you die. If you did, that's your business. Just make sure it's updated if you have a change in your life.

Hopefully, this begins to summarize registered accounts and how they can help us save for retirement. They are useful accounts and as I've mentioned previously, I think they are the only truly effective way to defer income tax. I admit this is just my opinion but I'll stick with it for now. Don't forget to contribute and when you do, you can celebrate with a pint a few weeks later on St. Patrick's Day; one of my favourite days of the year and I'm not even Irish!

Thanks for reading. Now that the RRSP deadline is nearly in our rear-view mirrors, I will switch it up for the next post and talk more about financial planning. Again, this is a topic that requires much attention and detail so it will just be an overview. I will start by trying to explain the difficulty in predicting our future needs and why it might just be better to focus on what we are capable of saving today. More on this in a few days.

Cheers.