With the end of the tax year approaching, you may be thinking about last-minute ways to lower your tax bill, such as contributing to a Registered Retirement Savings Plan (RRSP). But before you do, make sure to double-check your total RRSP contribution limit, as there are penalties if you exceed that amount.
Not sure about your RRSP contribution limit for 2021? Here’s how to find out so you can avoid any nasty penalties.
Why hold an RRSP?
An RRSP is a special type of savings or investment account that helps fund your retirement. Any allowable contributions that you make to an RRSP are tax-deductible, and all interest or investment income earned inside an RRSP accumulate tax-free—which helps your savings compound faster.
RRSP Contribution Limit
The government sets limits as to how much you can contribute to your RRSP each year. In 2022, the maximum RRSP contribution is 18% of your gross income or $29,210, whichever is lower.
If you exceed the limit by $2,000 or less, you are not penalized, but you cannot claim a tax deduction for that extra amount. Over-contributions in excess of $2,000, however, face a penalty tax of 1% per month.
Finding Your Own RRSP Contribution Limit for 2021
Here’s how the government determines your RRSP contribution limit:
- Calculate 18% of your previous year’s earned income, up to an annual maximum. Earned income includes any money you made as an employee, through self-employment, or from property rentals. It does not include government benefits such as Employment Insurance. For 2021, the maximum allowable amount is $27,830.
- Subtract any pension adjustments. If you have a workplace pension, your employer will determine the pension adjustment for you. This amount is based on the annual contributions both you and your employer have made to a defined contribution plan or, in the case of a defined benefit plan, on a formula that calculates the pension benefits you earned that year.
There are a couple of ways you can find out your RRSP contribution limit for 2021. The simplest way is to check your latest tax assessment, which the Canada Revenue Agency would have sent to you sometime after you filed your 2020 taxes. It lists your current contribution limit and shows how they determined this amount by using the calculations outlined above. You can also find your RRSP contribution limit online if you register for the CRA’s free My Account service.
What Happens to Unused/Carry Forward Contribution Room?
If you did not use up all your RRSP contribution room in previous years, it carries forward indefinitely into future years until you make use of it.
RRSP Contribution Age Limit
You can make RRSP contributions until the year you turn 71. Or in the case of a spousal RRSP, until the year your spouse turns 71.
RRSP Deadline for 2021
This year’s RRSP deadline is March 1, 2022. Any RRSP contributions you make by that date can be deducted from your 2021 annual income when you file your taxes.
How Much Will I Save In Income Taxes?
Since your allowable RRSP contributions are deducted from your annual taxable income, the amount you save depends on your marginal tax rate and the province you live in. Those with incomes in the highest federal and provincial tax brackets will, therefore, save the most through their RRSP contributions.
Here are some examples of the amount of tax you would save if you made the maximum allowable annual RRSP contribution at various income levels. (This assumes you do not have any unused contribution room from previous years, and that you do not have a company pension.)
Total federal and provincial income tax savings on 2021 RRSP contributions, by province
|Annual earned income / max. RRSP contribution||Tax savings (B.C.)||Tax savings (Alberta)||Tax savings (Ontario)||Tax savings (Quebec)|
|$50,000 / $9,000||$2,066||$2,304||$2,058||$2,767|
|$75,000 / $13,500||$3,807||$4,118||$4,003||$5,011|
|$100,000 / $18,000||$5,677||$5,598||$6,264||$7,163|
|$125,000 / $22,500||$8,793||$8,100||$9,767||$10,551|
|$150,000 / $27,000||$10,989||$10,096||$11,721||$12,814|
Holding Investments in Your RRSP
When you hold investments in non-registered accounts, your investment earnings must be added to your annual income when you file your taxes. An RRSP, on the other hand, shelters your investment earnings from annual income tax—which makes it a preferred option for long-term savings.
You can invest in many types of assets within an RRSP, including stocks, bonds, mutual funds and exchange-traded funds (ETFs). If you are new to investing, or just like to take a hands-off approach, you can open an RRSP account with a robo advisor, such as Wealthsimple, which will build a diversified and balanced portfolio of ETFs for you.
If you prefer to choose your own ETFs or other investments for your RRSP, consider a discount brokerage to keep your fees to a minimum. Some even offer zero-commission trading. That means you can open an RRSP, TFSA, or non-registered account and buy and sell stocks and ETFs without paying any fees!
Saving Money on Taxes with an RRSP
As the name implies, RRSPs are primarily meant to be used as a source of income in retirement. Since you avoid paying income taxes on RRSP contributions in the year that you make them but pay tax on that money upon withdrawal, it’s best to think of RRSPs as a method of deferring taxes.
As such, if you expect your income to be lower in retirement than it is now, contributing to an RRSP is an effective way to reduce taxes.
You can also withdraw specific amounts of money from an RRSP tax-free and without penalty under the following programs:
- Home Buyers’ Plan: If you are a first-time homebuyer, you can borrow up to $35,000 from your RRSP to purchase or build a home for yourself (or a related person with a disability). You must repay any borrowed amount to your RRSP within 15 years.
- Lifelong Learning Plan: If you or your spouse is a full-time student, you can borrow up to $20,000 ($10,000 max. per year) to pay for your education/training. You must repay any amounts borrowed within 10 years.
You can hold your RRSP in a savings or investing account. But investing is really the best way to unlock the power of the RRSP. If you use the RRSP to invest in long-term equities, you can shelter a substantial amount of investment earnings. Would you rather shelter the 1% you are getting in a high-interest savings account or the 7-8% a balanced index ETF portfolio could snag you? You’ll save even more money on fees if you invest with a robo advisor.
Why Use Spousal RRSP?
If you earn significantly more than your spouse, and you want to make sure you pay the lowest income taxes possible during retirement, contributing to a spousal RRSP may help. That’s because you’ll get the tax deduction in the year you make the contribution to a spousal RRSP, but your spouse will declare the retirement income on his or her taxes during retirement.
In other words, contributing to a spousal RRSP is a way to split your income with your spouse during retirement, with the aim of paying less tax. (Note that contributions to a spousal RRSP count against your own RRSP contribution limit.)
RRSP contributions are one of the few methods available to lower your annual taxable income, while also planning for your retirement. But too much of a good thing can hurt you: if you overcontribute, you’ll pay dearly in penalties. So, take the time to find out your RRSP contribution limit well in advance of the March deadline, and make the most of your tax-sheltered investments.