Why You Should Max Out Your RRSP Contributions

For most people, RRSP contributions come in the form of automatic monthly payroll deductions or employer-matching programs.

Other people make lump sum contributions at the last minute right before the deadline of March 1st.

Related: RRSP Mistakes to Avoid

Whatever your style is, it’s important to make the maximum annual RRSP contribution (or at least try to).

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Avoid Using the Carry-Forward Room

Annual RRSP contribution limits are based on your earned income. If you don’t make the maximum available contribution for one year, it will carry forward to the next year. This means if you don’t have the money to contribute now – you can simply wait until next year to make the contribution.

If you have $20,000 of contribution room but only contribute $12,000, the $8,000 difference will be available to use next year.

Related: Common RRSP Myths

Some people purposely avoid making the maximum annual contribution to put the money elsewhere – on a home renovation, in a Tax Free Savings Account (TFSA) or for a much-needed vacation. Since the RRSP deadline is March 1 of every year, a tropical holiday instead of a last minute RRSP contribution is tempting for many.

They believe they’ll make a large lump sum contribution in the future and avoid making the maximum contribution for now.

Related: Calculating Your RRSP Contribution Limit

The problem with this strategy is that the carry forward contribution room will likely grow so big that this isn’t even realistic anymore.

For example: Joe has an annual earned income (salary) of $50,000. He has $10,000 of carry-forward contribution room.  Instead of putting this in his RRSP, he takes a vacation to Europe. Each year he has an excuse not to make a contribution – a family wedding, unexpected vehicle repairs or a vacation.

Assuming his salary grows at 3% annually, by 2030 he will have $42,000 of carry-forward contribution room with a salary of only $80,000.

Contributions Create Tax Deductions

Another reason to make the maximum annual contribution is simple – it creates a tax deduction that will reduce your taxes paid for the year.

If you don’t make the maximum annual contribution in one year, you’ll miss out on the related tax deduction and will be stuck paying the full amount.

Related: The Ways We Overpay on Taxes

With a salary of $75,000 and a marginal tax rate of 32%, a contribution of $7,000 would save you $2,240 in taxes.

What’s even more important than making the maximum annual contribution is how you use your tax refund.

If you make a large lump sum contribution of $25,000 this will create a tax refund of about $8,000 (assuming a marginal tax rate of 32%). If you don’t know your marginal tax rate, click here for a quick calculator.

Related: How to Fix Tax Return Errors

Using the tax refund wisely is important because if the money is wasted, the tax deduction for the RRSP is also wasted. Here are some ideas on how to use your tax refund wisely:

  • Putting the money back into your RRSP (assuming you still have contribution room)
  • TFSA contributions (assuming you have contribution room)
  • Paying down consumer debt (especially any debt with a high interest rate)

Less Time to Grow

The faster you put money in an RRSP and put it to work for you, the faster it will grow to a larger amount in the future because of compound interest.

If someone procrastinates about making an RRSP contribution year after year, the less time the money will have to grow – and the smaller the final amount will be.

For example: someone who contributes $2,000 annually for 30 years will grow their money to over $160,000 (assuming a 6% rate of return). On the other hand, someone who waits 10 years to start contributing $2,000 annually will have $84,000 in 30 years – almost 50% less.

My Strategy

I’ll admit that I’ve been a bit lazy when it comes to making the maximum annual RRSP contribution. Going forward, I plan to change that by reaching the maximum contribution limit – and then putting a plan in place to make sure I can reach it in future years.

Related: Financial Mistakes We Made in 2013

This means taking a look at our monthly budget and possibly reallocating more money towards savings.

Conclusion: making the maximum annual contribution isn’t achievable for most people, but the more you can contribute the better. The closer you can get to the maximum will bring you one step closer to reaching your retirement goals.

Do you make the maximum annual RRSP contribution? If not, do you plan to in the future?

15 Responses to Why You Should Max Out Your RRSP Contributions

  1. Tawcan says:

    I’ve been contributing the maximum RRSP each year since I’m eligible to contribute.

  2. Robb Engen says:

    I had a ton of unused room from working in the private sector in my 20s and I’ve spent the last few years trying to catch up. I’ve got $16,000 left in carry-forward contribution room, which I hope to max out in the next two years. Once I’ve caught up then I’ll turn my attention to our TFSAs.

    • Dan says:

      Robb – I am in a very similar situation, I have quite a bit of contribution room in my RRSP (same with my wife), so my focus is on that right now and then I’ll deal with the TFSAs. I will likely use the tax refund from the tax returns towards the TFSAs which will definitely help

  3. Good post Dan.

    I’ve got a few thousand left in RRSP contribution room. My wife has more than that, so we’ll turn our attention to that account in 2015+. Hopefully we can max hers out in another 5 years.

    Mark

    • Dan says:

      Thanks Mark! That sounds like a good plan….I’m guessing your have your TFSA maxed out as well? I don’t but I hope to once I max out my RRSP

  4. Alicia says:

    I have a bit of contribution room carried-forward, but it’s not too substantial. I currently am using 12.5% yearly with my work, but when my debt is paid off I will be upping that the additional 5.5%. After that, I’m happy to have a little bit (under $20,000) room sitting around in case a windfall comes my way, so I can shelter part of it.

    • Dan says:

      12.5% is great from an employer and that would be even better once you’re able to make it a full 18%. Right now my work pays 10% (which I can also take as cash but I never do that) and it gets bumped up to 12% next year so that will help. The TFSA is a bit more difficult since it isn’t deductible for taxes

  5. DivHut says:

    Great article highlighting the benefits of tax advantaged accounts and why we should all use them. Whether in the U.S., Canada, or anywhere else, the benefits of not paying tax long term really impacts future returns.

    • Dan says:

      @DivHut thanks, I think some people either put off maxing out their RRSP or make contributions solely so that they can use the refund as spending money (ie. vacation, home reno, etc)

  6. I have been maxing out both my TFSA and RRSP in the last three years. I have to say though that I started working three years ago as well, in the public sector, so my RRSP room doesn’t grow very fast…

    Every January I fill up my TFSA and every spring I fill up my RRSP (when I get to know my room for the upcoming year).

    I understand I’m incredibly lucky to be able to do this, but I hate having to overflow in non-registered accounts :P

    • Dan says:

      @Jason thanks for stopping by. Your RRSP room wouldn’t grow nearly as fast because I assume you get a decent pension? And you’re right, the fact you have both your RRSP and TFSA maxed out and have possible taxes to pay from a non registered account is a great problem to have!

  7. Due to my DB pension I have limited room for RRSP these days but before I used to try and max out my contributions.

    I’m pretty much at the point where I’ve completely stopped contributing since I do have some worries about being in a higher tax bracket when I retire. I focus on my TFSA

    • Dan says:

      Limited contribution room due to a DB (defined benefit) is a good problem to have. I don’t have a DB so I have lots of room to contribute, but obviously when I retire I won’t have a DB for income

  8. It’s true about making excuses every year why one can’t contribute once they start carrying over. I look at my carry over since I moved to Canada and know now that I need to get a move on. It took so long to get the job and income but now that our house is paid off my RRSP and TFSA is what I am targeting.

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