Like many dentists, your RRSP (registered retirement savings plan) may be the cornerstone of your retirement saving strategy, since it allows your savings to grow tax deferred and reduces your taxable income. Here are some tips to keep in mind as the March 1st deadline for RRSP contributions approaches.
Make your RRSP contribution early. The longer your RRSP deposit has to grow, the larger your retirement nest egg. So, if you have already contributed for the 2010 tax year, and you have additional money available, consider making your 2011 tax year contribution this January. You could accumulate $65 000 more in your retirement nest egg just by making early deposits (based on annual contributions of $20 000 each January compared to year-end deposits in the same amount, assuming a 6% average annual rate of return over 25 years).
Name a beneficiary for your RRSP. Segregated funds, such as the investment funds in the Canadian Dentists’ Investment Program’s RSP, provide protection of your assets from creditors when you name your spouse, child, grandchild or parent as beneficiary of the plan, and meet certain other conditions. Naming a beneficiary also allows your beneficiary to receive the proceeds directly, bypassing probate and the associated costs.
Maximize your portfolio returns by selecting investments that offer good value and low fees. For example, the investment funds in the Canadian Dentists’ Investment Program’s RSP have very low management expense ratios (MERs), between 0.67% and 1.77%, compared to the industry average MER of 2.68%. According to the Canadian Securities Administrators, “higher fees and commissions do not necessarily mean better performance.”1 What is guaranteed is that fees and commissions will reduce the return on your investments. Over 25 years, your investment portfolio could grow by $136 000 more if you pay 1 percentage point less in fees on a $20 000 annual investment that earns an average return of 6% annually.
Build a tax-efficient portfolio. Income from interest-bearing investments, such as bond and money market funds, will be 100% taxable if you have them in a non-registered plan outside your RRSP. However, if you hold them within your RRSP you will be able to defer taxes for as long as you have your RRSP. Consider holding some of your riskier equity investments outside your RRSP, so you’ll be able to apply any capital losses against your gains to reduce the amount of taxable gains.
Use contribution room left over from previous years. If circumstances have forced you to skip RRSP contributions over the years, RRSP rules allow you to make up missed contributions (back to 1991). So catch up as soon as possible to maximize your RRSP growth.
Set up a spousal RRSP for income splitting. Legislation allows seniors to divide their pension income with their spouse for tax purposes, but the rules apply to those 65 and older. If you plan to retire early, you and your spouse can achieve income splitting by establishing a spousal RRSP. By contributing equal amounts to each of the RRSPs (yours and the spousal plan) over the years, when it’s time to withdraw retirement income, you and your spouse could pay less tax compared to withdrawing income from a single, larger RRSP. (For example, if $80 000 of income was split evenly between spouses, their combined tax bill could be approximately $3500 lower than if one partner reported the entire amount on his or her income tax return.) With a spousal plan, the contributing spouse receives the tax deduction, but the plan is owned by the spouse in whose name contributions are made.
Show your children how to build valuable RRSP contribution room. Your children can get an RRSP head start by filing a tax return every year that they have a part-time or summer job. Not only will they gain valuable RRSP contribution room, they may also get money back if they’re eligible for benefits such as the GST credit. They can begin contributing to an RRSP at age 19 if they have available contribution room.
Contribute to a TFSA (tax-free savings account) after you contribute the maximum to your RRSP each year to gain tax-free compound growth. You can contribute up to $5000 annually to a TFSA. If you are a high-income earner, you may also want to consider other investment solutions such as an IPP (individual pension plan for dentists who operate their dental practice through a professional corporation) or private wealth management.
1. Canadian Securities Administrators. Mutual funds: What you need to know. April 2006.
Management fees are subject to applicable taxes.