Dale Jackson

Personal Finance Columnist, Payback Time

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The marketing blitz to get your RRSP dollars is underway. And while making a contribution to a registered retirement savings plan before the March 1 deadline could be a no-brainer most years, this year could be different due to the pandemic.

Well, it’s actually last year because the deadline only applies if you want to deduct your contribution from your 2020 income. During the year, COVID-19 forced roughly 40 per cent of the workforce to set up shop in home offices. Others weren’t so lucky and experienced a reduction or loss of income. Factoring a loss of income and government tax breaks designed to help workers impacted by the pandemic, the tax advantage from contributing to an RRSP could be lost or diminished.

Here’s why. Income is taxed at a marginal rate on both the federal and provincial levels. The highest income earners, for example, pay a combined rate of up to 50 per cent on the top level of their incomes while lower income earners might pay less than 20 per cent. That means an RRSP contribution from a high-income earner will result in a 50 per cent tax break, while a contribution from a low-income earner will result in less than a 20 per cent tax break. RRSPs favour the wealthy.

If your income was reduced in 2020 it might make sense to hold off and claim your RRSP contribution in 2021 or another year when your income is higher. If you can determine your 2020 taxable income, several online calculators are available to figure out how much of a refund you would receive. 

It’s important to know that RRSP contributions, and any gains they generate over the years, are fully taxed when they are withdrawn in retirement. The best anyone can hope for - rich or poor - is to keep withdrawals low and get taxed at the lowest rate. That would provide a huge tax reduction for the contributor taxed at a higher marginal rate in 2020, and a wash for the contributor taxed at the lowest rate.

The 2020 tax year also brings unique income-lowering deductions that have the same advantage as an RRSP contribution, such as a simplified home office tax deduction of up to $400, or possibly more for those who do a more detailed calculation of their home office expenses.

If your income was low in 2020 but you still have money to save, a tax-free savings account could provide a better tax advantage. TFSA contributions can not be deducted from income like an RRSP, but - unlike an RRSP - those contributions and any gains they generate are not taxed when they are withdrawn.

The tax savings from a TFSA are only as good as the investments inside them but they can also complement an RRSP when used as a retirement savings vehicle. As mentioned, RRSP withdrawals are fully taxed according to the marginal rate that applies to the amount being withdrawn. Splitting savings between them allows retirees to keep RRSP withdrawals at a low marginal rate and top up any further cash for living expenses from TFSA savings.

The finance industry tends promote a sense of urgency to make RRSP contributions before the deadline but any allowable contribution space can be carried forward to future years, which allows investors to monitor the balance between their RRSP and TFSA over time. 

If you choose the TFSA route this year, there is no deadline to contribute and Ottawa has permitted another $6,000 in contribution space in 2021. For anyone who was 18 or older when the TFSA was launched in 2009, the total contribution limit is $75,500.

Assuming Ottawa will continue increasing the allowable contribution limit in future years, a well maintained TFSA/RRSP combo could become a tax-saving powerhouse.