The pandemic has changed the way we live. The economic downturn and the surge in unemployment have presented people with all kinds of financial complications. This makes things difficult for those who are aiming to retire. Before the global health crisis, 54% of pre-retirement adults felt confident that they could do so, but when the pandemic arrived, the number dropped to 39%. Those who had the luxury to retire early were able to do so because of pensions and financial planning. Indeed, building your nest egg early on can secure your golden years, even in the event of a global health crisis. But that raises the question: What’s the best way to save for retirement?
The Registered Retirement Savings Plan (RRSP)
In a previous article, we talked about the disadvantages of not saving for retirement, and a lot of it boils down to how you can’t always rely on your pension income. Payments can either be delayed or insufficient for your current lifestyle. If this is something you don’t want to deal with, then you should make it a point to save for your retirement — and the best way to do that is to set up an RRSP.
An RRSP is a type of savings plan where you can grow your assets until you decide to retire. Any Canadian resident under 71 can apply and contribute to it until retirement. The reason RRSPs are so appealing is because of their tax benefits. For one, your contributions to the account are tax-deductible, meaning putting some of your earnings into it decreases your final income tax. The wealth in your account also grows tax-free, allowing your savings to compound faster.
RRSPs are also ideal as they provide you with a means to buy your first home or pay for your education. This can be done through the Home Buyers’ Plan and Lifelong Learning Plan, respectively. Just be sure to pay the amount you borrowed back within the specified time frame. Savings can also be withdrawn to pay for miscellaneous fees. However, before making any RRSP withdrawals, you must consider the rules surrounding this plan, and there are several important ones. First, withdrawing any amount from your RRSP before you retire is subject to withholding tax and marginal tax rate. The costs of both depend on the amount you’re taking out as well as the province you live in. For example, Albertans pay a 10% tax rate for withdrawals up to $5,000, while residents of Québec pay 5% for the same amount. Additionally, early withdrawals lead to your account losing its compounding power, meaning you’ll end up with less than you could have earned by the time you retire. As such, think carefully before opting for early withdrawals.
The RRSP versus other forms of retirement income
An RRSP is a personal retirement plan. Another common example of this is the Tax-Free Savings Account (TFSA). The difference lies in how contributions to the TFSA are not tax-deductible. Savings are also tax-free, even when they’re withdrawn from the account. Though this makes it easier to withdraw, a TFSA might not be a good idea for those who can’t resist dipping into their savings to purchase goods. In the end, RRSPs are more suited to those who expect to be in a lower tax bracket in retirement. Most people will likely be making a lower income then so having to pay less in taxes could offer some relief in the future.
There are various other sources of retirement income, some of which are government-backed while others are provided by the company you work at. It’s recommended that you utilize as many sources as you can and early as possible so that you can reap the benefits later. Doing this effectively sets you up for your golden years.