Exploiting RRSP Tax Confusion

A while back I listened to a pitch designed to get employees at my company to sign up for a group RRSP plan. One of the points the salespeople made that resonated with the audience was that employees could have their entire bonus payment deposited into their RRSP accounts without any withholding tax. Many employees were left with the false impression that this would save them a bundle on their taxes.

To make this more concrete, suppose that employee Megan receives a $20,000 bonus and has a 45% marginal tax rate. Megan will only get to keep $11,000 of her bonus. But if she signs up for this group RRSP, she can deposit the entire $20,000 into her RRSP. It seems like she is able to save $9000.

A first objection to this naive analysis is that Megan could have put the $11,000 after-tax bonus into an RRSP and would later get back $4950. So, Megan only saves $4050 with the group RRSP. However, even this analysis is flawed.

Suppose that Megan has $9000 in other savings. She could use that money plus her after-tax bonus to make a $20,000 RRSP contribution and then get a $9000 tax refund when she files her taxes for the year. This makes it clear that the main benefit of the group RRSP plan is that Megan essentially gets her tax refund right away instead of having to wait until she files her taxes. If Megan doesn’t have $9000 kicking around, then she can borrow the money and pay off the loan when she files her taxes.

Another twist is that Megan could file a T1213 form with CRA so that she would get her $9000 back spread over her remaining pay cheques for the year instead of waiting until tax-filing season.

In the end, the group RRSP doesn’t save Megan $9000. It just saves her a little interest on this amount and saves her some aggravation.

Comments

  1. DarynJuly 4, 2012 at 12:11 AM

    Although just to note for any readers who haven't done the T1213 before, don't expect it to be done in a couple of weeks before year end or anything like that.
    Generally it's always seemed to take a generous 2 months for me to get the approval letter back, at least from my local tax office.

    ReplyDelete
  2. Michael JamesJuly 4, 2012 at 12:57 AM

    @Daryn,

    It sounds like your experience has been worse than mine. I haven't exactly been happy with the response time to my T1213 forms, but I've had responses within a month.

    ReplyDelete
  3. paulJuly 4, 2012 at 11:13 AM

    I'm sure that work RRSP P.Plan also has a very attractive MER/IMF of around 2.5% to further destroy your contribution in a segregated fund going nowhere slowly.

    ReplyDelete
  4. Michael JamesJuly 4, 2012 at 12:02 PM

    @Paul: You're not too far off. The MERs range from 1.5% to 2%. This is better than some, but still painfully high.

    ReplyDelete
  5. Paul TJuly 5, 2012 at 10:20 AM

    This isn't unique to group plans. The company I work for will also do this when requested. They cut a cheque for your bonus (the full amount) payable to to your personal RRSP account at your bank. You hand deliver the cheque for deposit into your RRSP account.

    Of course, you don't get a refund for that RRSP contribution, as you used Pre-Tax dollars to make the deposit

    ReplyDelete
  6. Michael JamesJuly 5, 2012 at 11:19 AM

    @Paul T: I've never worked for an employer that offered this service, but it makes a lot of sense.

    ReplyDelete
  7. PatrickJuly 5, 2012 at 11:57 AM

    I think you meant she could use her savings to make a $29,000 contribution?

    One question: would this idea mean chewing up an additional $9k of contribution room? Does the direct pre-tax contribution save her $9k of room?

    ReplyDelete
  8. Michael JamesJuly 5, 2012 at 12:07 PM

    @Patrick: Perhaps I didn't explain things clearly enough, but I meant that she would use her $9000 in existing savings plus the after-tax bonus amount of $11,000 to make a $20,000 RRSP contribution.

    ReplyDelete
  9. Paul TJuly 5, 2012 at 12:08 PM

    @Michael: It's much the same as asking for less taxes to be taken out of your regluar pay because you regularly make RRSP tax contributions. IE: you don't want to give the government a free loan while you wait to file your yearly taxes and get a big refund back.

    ReplyDelete
  10. AnonymousSeptember 17, 2012 at 3:26 AM

    What if you had $20,000 saved off the grid... Wanted to put it into your rrsp and get the tax benefit year end and then use the $20,000 as a deposit for a first time home buyer ?? Possible ? Ideas how to make $20,000 benefit me thru rrsp?

    ReplyDelete
  11. Michael JamesSeptember 17, 2012 at 9:10 AM

    @Joe: I'm not sure what you mean by "off the grid", but assuming you just mean $20,000 in non-registered savings, then what you suggest is possible -- you just have to watch out for the rules that require a delay from the last RRSP contribution to the first-time home-buyer's plan withdrawal. This required delay time has changed at least once over the years. I'd suggest looking at the CRA web page for the home-buyer's plan.

    ReplyDelete
  12. AnonymousSeptember 17, 2012 at 9:01 PM

    So I have 20,000 in savings. If I put it into rrsp's.... Will I get some return come tax time?

    Then after the money has made money for me... I can use it as a downpayment on a home - tax free... Then put that value back at 1/15th per Annum...

    If you had 20,000 / had rrsp's / wanted to buy a house - what would you do?

    ReplyDelete
  13. CkApril 8, 2015 at 5:55 PM

    Instead of having it avoid tax and going into RRSP it I alright to be taxed and then put in my TFSA?

    ReplyDelete

Post a Comment

Popular posts from this blog

Short Takes: InvestorLine’s HISAs, 24-Hour Trading, and more

I recently moved some cash into BMO InvestorLine’s high-interest savings accounts (HISAs) that are structured as mutual funds.  Their designations are BMT104, BMT109, and BMT114, and they purportedly pay 4.35% annual interest (which they can change whenever they like).  However, the way they report the monthly interest payments is so baffling that I wasn’t able to sort it out in my first 15 minutes of trying.  A further complication is the following text in the HISA description: “The Bank may pay, monthly or quarterly, compensation to your Dealer at an annual rate of up to 0.25% of the daily closing balance in the BMO HISA.”  I couldn’t find any evidence of such a charge, but I haven’t been invested for a full quarter, and I can’t yet say that such a charge isn’t buried somehow in the confusing reporting.  I have more digging to do before I can recommend these HISAs. Here are some short takes and some weekend reading: Preet Banerjee explains the dangers of Robi...
Read more

My Asset Allocation

I’ve resisted discussing my asset allocation for some time, but now is finally the time to describe it and the reasons behind it. I’m not holding it out as a model portfolio; I believe it’s suitable for me and not necessarily anyone else. With that warning, enjoy the discussion and feel free to ask questions or take some pot-shots. The main reason why I haven’t discussed my asset allocation in detail before now is that I don’t want readers to treat it like a model portfolio and follow it blindly. Everyone’s situation is different. The need for variation in asset allocation from one investor to the next usually isn’t huge, but there is no one-size-fits-all portfolio. A secondary reason for keeping my asset allocation to myself is that I can’t be sure I’ll never change it. For example, I recently made the minor change of switching from an ETF of small-cap stocks to an ETF of small-cap value stocks . I don’t have any plans to change my current allocation, but I may think differe...
Read more

What to Do About Crazy Stock Valuations

Image
The last time I had to put a lot of effort into thinking about my finances was back when I retired in mid-2017.  I had ideas of how to manage my money after retirement, but it wasn’t until a couple of years had gone by that I felt confident that my long-term plans would work for me.  I had my portfolio on autopilot, and my investing spreadsheet would email me if I needed to take some action. I was fortunate that I happened to retire into a huge bull market.  I got the upside of sequence-of-returns risk.  The downside risk is that stocks will plummet during your early retirement years, and your regular spending will dig deep into your portfolio.  Happily for me, I got the opposite result.  My family’s spending barely made a dent in the relentless rise of the stock market. However, stock prices have become crazy, particularly in the U.S.  One measure of stock priciness is Robert Shiller’s Cyclically Adjusted Price-Earnings (CAPE) ratio .  In the U.S...
Read more

Archive

Show more