While I was having coffee the other day with some co-workers it came out that I was maxed out…no, not on credit cards, but rather RRSP contribution room and last year my wife and I maxed out of TFSA contribution room.
Until that moment I had forgotten how unusual that state of being is for most people. The older people around the table all had unused RRSP contribution room of $30,000 to $50,000 and all of them make an healthy salary. So it wasn’t the fact they couldn’t save, but rather they had chosen not to.
In total Canadian’s have $600 billion in unused RRSP contribution room, which is a lot of tax savings people are leaving on the table. Put it another way, if everyone used that up in a single year at a mere 26% tax rate the government would be out $156 billion in revenue. That doesn’t even touch the used TFSA contribution room out there as well.
So why is saving such a difficult thing to do? After all the amounts aren’t huge in the case of RRSPs it is 18% of your previous year income (less pension adjustments). So if you had a defined contribution pension you could likely get 5 to 10% there, which leaves anywhere from 13 to 8% left to be saved. Yet you get a tax refund on that money, so as long as you keep putting your refund back into RRSPs you really only have to save around 10% or less. Can you not live on 90% of your income?
Granted if you don’t have a pension plan this takes a bit more planning to really pull off. 18% of your income can seem a big difficult, but that is why you need to get the tax refund at once rather than waiting until tax season. How? You can use that handy tax form T1213 Request to Reduce Tax Deductions at Source. By having a regular contribution plan setup, you can fill this out and send it in then a few weeks later you can start getting your refund on each paycheck rather than waiting the full year. This helps keep your cash flow up while saving. The downside of this trick is you do have to file it every year (in most cases).
I should also point out I also had extra RRSP contribution room for a number of years (~$30k). It was only between some planning and adding extra money for years that we managed to catch up. Yet it can be done and when you put your mind to it.
So have you ever maxed out some contribution room? If so, how did you do it? If not, what is preventing you?
You read that title correctly: yes, I do like to owe at tax time, even if I actually don’t plan for it. You see I actually plan to get a close to zero refund as I can with my tax planning. So I fill out my TD1 forms, calculate my RRSP contributions and guess a little at the year ahead in order to get no tax refund or owe anything. Yet as you are likely aware life never works out that way.
So owing tax at the end of the year is a good sign to me as that means I earned more than I was guessing at the start of the year. While yes that does mean I end up having to consider paying a lump sum payment after I file my taxes I really don’t mind for the most part. After all I usually keep some money in saving to cover off this issue if I start to notice that I’m earning more than I would have guessed. Actually in late 2011 I made an extra lump sum contribution to my wife’s RRSP since I noticed I was doing much better on income than I thought I would.
I used to tax plan like most people and be very conservative on my estimates and would often get a refund at the end of the year. Then it occurred to me that I was giving the government an interest free loan of ‘my money‘ ever year that happened. So I decided to change my plan and aim for the zero refund.
I would caution that aiming for a zero refund in general takes more work. After all I often have to change my TD1 form at work in order to adjust for any changes that will occur in the year ahead. I also intentionally keep my taxes taken off my second job low in order to give me a bigger cash flow during the year which makes saving in our RRSPs easier. By the way, in case you were not aware of this fact the easiest way in the world to owe taxes is to have more than one job, since each job only assumes you only work for them you never get enough tax taken off at the second job. (In technical terms what happens is both work places assume you can use your basic tax deduction, when in fact you can only claim that once.) In order to compensate for this you either have to ask for extra tax be taken off on your TD1 form or contribute most of that second income to RRSPs. I personally go with the second option as saving is easier with a larger cash flow during the year.
How do you plan for you taxes? Do you like to owe money or get a small refund? Also can you tell I’m getting ready to do my taxes since this has been on my mind lately? 😉
So are you sick of RRSP season yet? Well if so, might I propose a different point of view on it. Why is it no one talks about how exactly do you max out your contribution every year? We all know the limit is 18% of your previous years income, but that is a lot of money to have to save for most people. Heck until recently I didn’t even max out each year, so how do you do it?
Well to be honest it does get easier as you earn more. After all your basic expenses don’t change that much regardless of what income you make, we all have to eat, pay taxes and your power bill. So when you are earning more than $60K a year, saving for your RRSP is easier. Yet beyond earning more, what can a person do? Well here is my list of other ideas:
- Make it Easy. Make your contributions automatic so you don’t have to come up with any lump sums at the end of the year. You are more likely to get to your goal in little steps rather than trying for big leaps.
- Get the Free Money. If you have a defined contribution plan or group RRSP that gives you a matching amount on your contribution from your employer, make sure you are collecting every dime. Free money doesn’t happen often so fill out those forms now and get it.
- Pay Less Tax Today. Saving can be hard with your tax bill on each cheque, so if you sign up for an automatic RRSP contribution plan outside of your pension, make sure to fill out a T1213 form (deduction from source). This allows your employer to give your tax refund on every cheque rather than in one lump some at the end of the year. Depending on how tight your cash flow is that makes the savings a lot easier to do.
Ok, but how do these work to really get you to that 18% limit? Well it goes something like this. First get that free money from an employer match, so if you put in 5% and then put in 5% that brings you up to 10% in total. Then if use that T1213 form you can sign up contributing that last 8% yourself, but here is the kicker. If you are getting a 30% tax refund on that money, for example, you then only have to come up with the remaining 5.6% of your salary each month (or 0.70 * 8%). Why? Well because the remainder will come out of the money you use to be paying taxes with. So that way with only putting in 10.6% of your own salary you end up hitting your maximum RRSP contribution every year. Now isn’t that a lot easier than trying to save up 18% of your salary yourself?
So do you max out your RRSP each year? If so, any other tips for people? If not, why don’t you max out?