Pros and Cons of RRSP

Pros and Cons of RRSP

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Registered Retirement Savings Plan (RRSP) is a retirement investment vehicle in Canada. It is essential for investors with less money to spare and has a few risks involved. This investment tool helps you save enough money for retirement as well as reduce the amount of tax you pay. Let’s look at the pros and cons of using RRSP investment plan.

 

Pros:

1. Long-term investment tool: If you create a long-term investment account and lock your savings, the more interest you will gain on the amount invested provided you don’t withdraw the money from the locked account.

2. RRSP loan: You can borrow an amount of up to $25 000 without any penalty to buy a house using Home Buyers Plan (HBP). You can also take a loan to fund your education using life- long learning plan (LLP).
The amount borrowed is tax-free.

3. Tax benefits: The higher the yearly contribution, the greater the tax exemption and benefits from income tax returns. People in high tax bracket have reduced income bracket which results in less amount of taxes paid.

4. Flexible payments: No minimum deposit is required and you can start investing with as little as you have. You can also make an arrangement with your bank for the payments to be automatically withdrawn from your account and send directly to your RRSP account.

5. Yearly compounded interest: You can receive yearly compound interest and the rates depend on your Investment Company or bank.

6. Get regular payments upon retirement: You can easily convert your RRSP saving tax-free into RRIF or an annuity upon retirement to pay tax from the regular payments you receive each year.

7. Allow you to grow your net worth: RRSP gives investors a tax deduction and withdrawals attract tax penalty. This creates an incentive for investors to keep investing and avoid withdrawing increasing their net worth.

8. Tax-deferred earnings: After you contribute a certain percentage of your pay to RRSP, you start paying less on the tax to the government since the contributed amount comes from your paycheck before the income tax are deducted. This results in less taxable income and less tax bill.

9. Savings grow tax-free: You will not pay tax on investment earnings as long as the amount stays in your RRSP account. Your savings will grow faster due to this tax-free compounding.

10. Spousal RRSP: If you earn more than your spouse, you can help them by contributing to their tax-free savings and this will reduce the total amount of tax you pay since it will be split equally between the two.

 

Cons:

1. Age limit: You’re only supposed to contribute before you turn 71 years after which the funds are cashed out.

2. Taxed heavily upon retirement: You will be taxed a hefty amount at retirement and sometimes you will be forced to withdraw some funds from the account.

3. Tax charges: For every amount withdrawn from your RRSP account will be taxed by the Canada Revenue Agency (CRA). The charges depend on the amount withdrawn.

4. Contribution limit: Each taxation year, there is a contribution limit set to ensure high-income earners in Canada do not evade tax. Those with unused contributions are forwarded to next year tax.

5. Restricted range of investments: RRSP has a restricted range of investments unlike outside the RRSP where you may have more investment option.

6. Retirement complications: By the time your 71, you’re supposed to convert RRSP to Registered Retirement Income Fund (RRIF) and start receiving minimum income from it. This may put your income to higher tax bracket especially if you’re still working.

7. Liquidity and penalties: RRSP withdraws are taxed in the year they’re made this may affect you when filling the tax especially if the put you in the high tax bracket. Your RRSP Company or bank can withhold 10-30% of the withdrawal as tax prepayment.

8. RRSP assets: The RRSP assets cannot be used as collateral for a loan.

9. Death: In case of death, all payments out of the RRSP of the plan holder’s state are subject to tax as income of deceased unless they’re given to the spouse or dependant.

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