Since the start of the millennium, participation in the Registered Retirement Savings Plan (RRSP) has declined, dropping from 29.1 percent of contributing taxpayers in 2000 to just 21.7 percent in 2022. While the introduction of the Tax-Free Savings Account (TFSA) in 2009 may be partly responsible, persistent misconceptions about the RRSP likely play a role. Let’s address some of the common myths:

Myth 1: Non-registered accounts are better because only income/ gains are taxed. A common belief is that a non-registered account yields better outcomes because only income and gains are eventually taxed (with favourable tax treatment for dividends and capital gains), whereas RRSP withdrawals are fully taxed at marginal rates. While it’s true that withdrawals (usually from a Registered Retirement Income Fund (RRIF)) are fully taxed as income, what is often forgotten is the initial tax deduction at contribution. Remember that a $30,000 RRSP contribution is equivalent to an after-tax contribution of $18,000 at a marginal tax rate of 40 percent. If your tax rate remains the same at the time of contribution and withdrawal, you effectively receive a tax-free rate of return on your net after-tax RRSP contribution (see chart). In many cases, even if your tax rate is higher at the time of withdrawal, you may be better off versus a non-registered account due to the effect of tax-free compounding over longer periods.

Myth 2: It’s better to invest in a TFSA than the RRSP. The RRSP generally yields a greater benefit if you expect a lower tax rate in retirement. In practice, many contribute to their RRSP during higher-income working years and withdraw when income (and tax rate) is lower in retirement, leading to an advantage for the RRSP. Of course, there may be situations when the TFSA is a better choice, such as if you have a higher tax rate at withdrawal or face recovery tax for income-tested benefits like Old Age Security.

Myth 3: Saving too much in an RRSP/RRIF will result in a large tax bill at death. While the fair market value of the RRSP/RRIF at death is generally included in the terminal tax return and taxed at marginal rates, there may be ways to mitigate the potential tax burden. This includes a tax-deferred rollover to a spouse or financially dependent (grand)child. Another way to manage the potential tax bill is to engage in a “meltdown strategy,” making withdrawals earlier when your tax rate may be lower than you expect at the year of death. For more information, please call the office.