You can start collecting your CPP and OAS benefits in your early 60s. But is it better to hold off for another few years? Here’s what to keep in mind before you tap into these pensions.
February 07, 2018
Clear answers to top financial planning questions
The answers to important financial planning questions about RRSPs, TFSAs and pensions can help you get on the road to lifetime financial security.
With life’s hectic pace, it’s often hard to find time to get answers to important questions. You may have things you’d like to ask your doctor, mechanic or lawyer, but you just haven’t gotten around to it. The trouble is, sometimes not knowing the answer can keep you from taking needed action: getting an x-ray in time to catch a problem, replacing your muffler before it falls off in traffic or even changing your will when you divorce or remarry.
Unanswered questions can also hold you back when it comes to saving for retirement, whether you belong to a retirement savings plan at work, such as a company pension or a group RRSP or TFSA, or you’re saving on your own.
To help you get on the road to lifetime financial security, here are the answers to some important financial planning questions:
Q: What’s the difference between an RRSP and a TFSA?
A: These are both great ways to save for the future. A registered retirement savings plan (RRSP) helps you save for retirement by setting up a plan and then choosing various investments to put in it, such as treasury bills, guaranteed interest products, mutual funds, segregated fund contracts, bonds and/or stocks. You get an immediate tax break on the money you put in your RRSP (up to your contribution limit), you pay no tax on any investment growth while your money remains in your plan, and you defer paying taxes on both your contributions and investment returns until you withdraw your money. If you wait to withdraw money from your RRSP until after you retire, when your income and therefore your tax bracket are likely to be lower, you’ll pay less tax than you would have while you were working. Since you won’t enjoy the full tax benefits until after retirement, an RRSP is usually best suited for long-term saving.
The tax-free savings account (TFSA) was introduced by the federal government in 2009 to help Canadians save for both short- and long-term goals. Anyone 18 or older can open a TFSA with a range of investments like those you can hold in an RRSP. The contribution limit has varied over the years, but unlike RRSPs, it’s the same for everyone. Also unlike an RRSP, you don’t get a tax deduction for contributing. All the growth earned in your TFSA is tax-free and you can withdraw money from your TFSA any time (subject to any restrictions applied to the investments in your account) without paying tax. There’s another important difference: If you take money out of your TFSA, you can put it back starting the following year on top of the contribution limit for that year, but once your RRSP contribution room is used up, you never get it back.
Often, it’s a good idea to take advantage of both an RRSP and a TFSA to satisfy different savings goals, or to work towards the same goal in different ways.
Q: What’s the difference between a defined contribution (DC) pension plan and a defined benefit (DB) pension plan?
A: As the name suggests, with a DB pension plan, the benefit you will receive is defined. In a DC plan, only your contribution to the plan is defined, and the final benefit you receive will depend on a number of factors.
The income you receive from a DB plan at retirement is based on a formula that usually involves your years of service and earnings. You receive annual statements clearly indicating the benefit you can expect on your retirement date. In a DB plan, your employer manages the assets — you’re not actively involved.
In comparison, a DC plan consists of employer contributions and, if applicable, employee contributions to the plan. The amount of pension you’re paid at retirement depends on the performance of the investments your accumulated contributions have purchased. The amount you contribute is often determined by a specific formula related to your earnings, as set out in the plan document. In a DC plan, you are usually actively involved in making investment decisions, with the help of various investment tools that your employer provides.
Q: What’s the maximum amount I can contribute to my RRSP?
A: There are limits to the amount you can contribute to an RRSP per year. You can find your personal RRSP contribution limit on your Notice of Assessment from Canada Revenue Agency (CRA), which you receive each year after filing your income tax return. Generally, you can contribute up to 18% of your previous year’s earned income, up to an annual maximum, plus any unused contribution room carried forward, and less any pension adjustments (PA), which include contributions to a company pension made for you by your employer. When calculating how much you can contribute to an RRSP, you must remember to include all contributions you’ve made to all your RRSPs, including spousal plans.
Q: Can I withdraw money from my retirement plan?
A: This depends on the type of plan you have. With an RRSP, you may be able to withdraw all or part of your funds at any time; however, these withdrawals are subject to tax. If you are part of a group plan, there may also be withdrawal restrictions while you are employed. Usually, you can’t take money out of a company pension plan until age 55, barring extreme financial hardship or serious illness.
Keep in mind that even if you can make a withdrawal, you might have to pay tax right away on the amount you withdraw, and possibly additional tax at year-end, as well as other potential costs. Taking money out of your retirement savings early will also delay your reaching your long-term retirement goals. There are some exceptions, such as the federal government’s Home Buyers’ Plan, which allows a first-time home buyer to withdraw from an RRSP if certain requirements are met.
