5 RRSP mistakes and how to avoid them

1. Only putting cash in your RRSP

Did you know you can hold many types of investments in an RRSP? This includes stocks, guaranteed investment certificates, mutual funds, bonds and more.

Here’s a common scenario. In a scramble to make the deadline, you contribute cash to your RRSP. Then life takes over and you don’t get around to actually investing the money.

But RRSPs grow tax-deferred until you take them out. So investing the money will help you earn more over the long-term.

You may be leaving your contributions in cash if you’re short on time or don’t have a plan. In both cases, an advisor can help you build a plan and find a way to invest your assets. 

2. Making early withdrawals

Making RRSP withdrawals before retirement to cover bills or make big purchases can have lasting consequences. For one, you're giving up the years of tax-deferred growth your money would have generated inside your plan.

And secondly, you’ll face a double tax hit.

The first comes on withdrawal. You’ll have to pay an immediate withholding tax. 

Here’s a look at just how much.

3. Contributing too much

You can put up to 18% of your previous year’s earned income in your RRSP. That’s up to a maximum amount set annually. You can also carry forward room from previous years. (Your notice of assessment from the CRA spells all of this out in dollars and cents.)

That sounds like a lot of leeway, people go over the line occasionally. Company pension plans or deferred profit-sharing plans (DPSPs) are usually the culprit.

If you’ve contributed to a pension – defined-benefit (DB) or defined-contribution (DC) – it will decrease your contribution limit. Contributions to a DB or DC pension, as well as to a DPSP [even though a DPSP isn’t a pension], show up in the form of a pension adjustment in box 52 on your T4 slip. Often, people who over-contribute have a pension or a DPSP and they didn’t realize that these decrease their RRSP room.

It’s also important to note that you can over-contribute a lifetime total of $2,000 without penalty. The CRA allows this as a buffer against possible errors like ones from a pension adjustment.

4. Spending (instead of investing) the tax refund

Your RRSP contributions may result in a tax refund. So what happens if you reinvest this cash in your RRSP without over-contributing? Then you can trigger a happy growth cycle for your nest egg, thanks to the magic of compounding. Compounding is when you earn a return on your original investment and the return you received. It means more money in your account long-term.

If you spend your refund, though, you’ll miss this great opportunity.

5. Misunderstanding the RRSP succession rules

Another common error happens when people name an adult child as their RRSP beneficiary when they still have a living spouse or common-law partner.

But what if you have no living spouse or partner and you leave your RRSP to your estate? You still can’t escape the tax bill. The CRA will add the fair market value of the assets held in your RRSP to your income in the year of your death. This can trigger a significant tax bill for your estate that could diminish its value for your heirs. However, that tax can be deferred (meaning you won’t have to pay it right away) if you died leaving:

• a financially dependent child or grandchild under 18, or
• a financially dependent, physically or mentally infirm child or grandchild of any age.

But don’t let this keep you away from RRSPs. The key is to view your RRSP as a tool to sustain yourself in retirement, not to pass on a legacy.

Remember, the RRSP deadline for 2023 is on February 29, 2024. The CRA allows contributions for the previous tax year for up to 60 days after year-end. If you aren't already contributing to an RRSP, consider setting one up to start growing your nest egg.