No matter how hard you work, you pay a large amount of your income in taxes. There is no way around this. You can work constantly for a year, with the hope of taking the following year off to go travelling, but the larger amount you earn in that year is going to be taxed abundantly. There is little you can do about taxes, but with a little planning, you can make some smart decisions.

The RRSP, or Registered Retirement Savings Plan, is a way to line your retirement nest egg before your working days are over. Of course, you’re going to be earning little, if anything, during your retirements years, so it makes sense to save as much in your RRSP as possible. The problem? Life gets in the way, and business revenue is in no way guaranteed. Just because you had a great year last year, doesn’t automatically mean this year is going to be the same. On top of this, there are savings, medical bills, charity contributions, and everything else which comes out of your salary. It doesn’t leave much aside for anything else.

Utilizing Your RRSP

We’ve mentioned that fact that if you earn more, you are taxed more. While the tax system might seem rather unfair, we can’t do anything about this very fact.

For instance, if you decide you’re going to work hard one year and take the next year off, as per our last conversation. If you earned $100,000 in one tax year, you would pay around $24,000 in taxes and nothing in the year you take off. If however, you straddle tax years with your earnings, you would spread your income over those two tax years and end up paying less, over a longer period of time. It’s about being savvy and doing your tax planning.

So, where does the RRSP come into it?

Whilst your RRSP is for retirement, it can be used in other circumstances. It gives you the opportunity to bridge any income gaps.  

How The RRSP Works in Relation to Tax

When you retire, your income is generally going to fall as compared to working rather significantly. The RRSP compensates you for the fact that you are earning very little, but you did well during your working years. When you pay money into your RRSP, you benefit from a little tax relief.

For instance, if you earn $100,000 in one tax year, and you pay $20,000 of that into your RRSP, you will not be taxed on the RRSP amount, and only the $80,000 surplus. If you wanted to, the following tax year you could withdraw the $20,000 out of your RRSP and that means it would transfer to your income amount instead. That reduces your tax bill for that following year, as you’ll end up paying around $17,000 in tax instead. That saving is quite considerable.

Basically, if you experience a drop in your income, you can withdraw cash from your RRSP, which would enable you to pay your taxes at a lower amount that year. Any money saved, helps.  

Of course, RRSPs are predominantly meant to be or your retirement years, so it’s always worth bearing in mind that you would be keeping a good proportion of money in that fund for the years when you won’t be working.

The Big Salary RRSP Tax Move – For business owners

I have a signature tax move that works well for business owners who have RRSP room. Please note your room grows at 18% of your gross employment income each year. The idea behind this tax move is to have the owner of the business take out $150,000 salary income and buy a $100,000 RRSP this effectively generates a huge refund as the total taxable salary is $50,000 and the $100,000 is tucked away for retirement.

This move also allows you to reduce your corporate taxes by taking a big write off. Even if this brings your corporation into a loss position that’s not a issue as you can use these “losses” as a carry forward and write it off against future profits. 

The Employee RRSP Tax Dilemma – For Employees

To invest in RRSP or not to is the question. This is the question asked by many employees each year. The practical answer is it depends on where you are in your current life. If you have other debts than generally it doesn’t make sense to invest in a RRSP and it might be better to pay down debt. Remember the RRSP is for the long term so you have to be careful on the investment.

Another tax trap that is usually generated from the RRSP is the big tax refund. You should re-invest this money back into your savings but if you end up spending this you have pretty much neutralized your tax generated savings.

Interested in a tax conversation? Let’s talk Tax I talk back =)  

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- The Capex Team