[Chronique] Is maximizing your RRSPs each year enough for retirement?

The theme of this column will certainly not stand out for its originality. Bowing to popular pressure, I answer another question regarding RRSPs (Registered Retirement Savings Plans), which I concede is hardly consistent with my stated intention not to contribute to “seasonality”. retirement savings!

However, the question deserves to be asked, regardless of the page displayed on the calendar. Perhaps you already know that regular investment is one of the keys to success in preparing for retirement. The earlier in life you save, the less effort it takes to reach your goals through the magic of compound interest.

Wouldn’t it be logical, then, to conclude that contributing the maximum each year to your RRSP is a universal rule to follow in order to successfully prepare for retirement? Let’s examine this more closely.

The magic percentage does not exist

First, remember that it is possible to contribute to your RRSP up to 18% of your income earned the previous year. Contributions to pension plans or deferred profit sharing plans (DPSPs) reduce the contribution limit by a pension adjustment ensuring that all taxpayers receive a uniform tax benefit in registered plans.

In principle, contributing the maximum each year to your RRSP — just as if you had participated in a pension plan for your entire working life — will allow you to live on 60 to 70% of your gross income in retirement. Thus, the answer to the title question should theoretically be positive. But it’s not that simple…

One has to wonder why the idea that 10% of gross income should be saved for retirement persists in the popular mind. On the one hand, you should know that the moment you start saving is a very important factor to consider in the equation. It mainly depends on the age at which you started saving. For example, if you’ve been saving since leaving school, you may be able to stick to the 10% goal. On the other hand, if you’ve been in the cicada’s clothes for too long, it’s likely that the 18% of your earned income invested in the RRSP will be clearly insufficient.

Obviously, the answer will not be the same for everyone. It will vary according to your risk tolerance profile, which will influence the potential return on the investment. Again, it all depends on your goals, your investment horizon, projected return on assets, target cost of living in retirement.

Ultimately, the only way to know if you are contributing enough is to establish a financial plan that will take into account all your sources of income, projected in retirement. Let’s not forget that an entrepreneur or a real estate investor does not have the same reality as an employee. Other sources of income must be considered in their case, these general percentages becoming meaningless.

Two preconceived ideas

The reasons why it is impossible to conclude that maximizing your RRSPs each year is simple and sufficient – ​​which does not mean easy! – are numerous. One thing is certain, for high earners, this myth simply needs to be debunked. Since RRSP rights are capped at $30,780 for 2023, contributing the maximum to your RRSP annually could indeed lead to disappointment at retirement for employees earning more than $171,000. In such a case, contributing to the maximum in your RRSPs each year and spending all the surpluses would lead to a marked drop in the standard of living in retirement. It will take an extra investment effort to maintain the same standard of living, in other plans, such as TFSA or non-registered or other assets.

Another preconceived idea is that you can contribute too much to an RRSP. I am not referring here to excess contributions, which lead to penalties, but rather to the fact of believing that contributing the maximum each year to your RRSP could penalize you later, since you will be taxed more on withdrawals. In theory, the answer is yes, you can contribute too much to the RRSP. Retirement planning should take into account the projected cost of living at that time. Your current contributions should cover only this projected standard of living, taking into account other available sources of taxable income.

Thus, it may be more strategic to invest the excess in a TFSA, since withdrawals from this account are tax-free. In my practice, I have never seen retirement projects based on a very significant reduction in the standard of living.

Furthermore, the majority of taxpayers will have a lower tax rate in retirement, not to mention that many assumptions in retirement plans are all but guaranteed. In short, if you have always contributed 18% of your earned income to the RRSP, your strategy is more likely to be a winner than a loser.

If you are looking to achieve financial independence as early as possible in your life, it is undeniable that aiming for a maximum contribution each year to your RRSP remains an ambitious, but effective objective. For young investors, however, the appearance of the TFSA (tax-free savings account for the purchase of a first property) in 2023 must be taken into account in the analysis, since the first $8000 will earn from of this year to be directed there.

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