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Low RRSP contributions donít jibe with retirement income worries

by Wayne Cheveldayoff, 2005-01-06

Surveys show that the majority of Canadians are worried about having enough money to live on when they reach retirement, but at the same time the statistics show that weíre not saving enough.

Only 20 per cent of us contributed the maximum to our RRSPs in 2003 and we used up only 9 per cent of the total contribution room available to us.

Whatís going on? Is it a conspiracy to have financial planners constantly tearing their hair out in frustration?

It appears, rather, especially given other statistics about record-high home sales and surveys showing Canadians are optimistic about future house prices, that many of us are socking savings instead into buying homes or paying down mortgages.

RRSPs were created so we would save enough for retirement. They allow us to shelter from income tax up to 18 per cent of earned income each year and have it accumulate tax-free until we withdraw it to fund retirement.

But if the home is sucking up savings instead, itís a mistake that will mean a less comfortable retirement.

Put another way, itís as Canadian as hockey to put energy and money into owning a home, especially a large one. The impulse is strong, but it conflicts with solid financial number crunching.

For young people in their 20s and 30s especially, if there is not enough money to both buy a home and contribute the maximum to an RRSP, the numbers show the best choice is to top up the RRSP and delay purchasing the home until both can be afforded.

This is due to the power of compounding of investment returns over many years in a tax-sheltered environment.

The more you save in your RRSP now, the less you will have to save later to achieve the comfortable retirement you want.

Hereís an illustration that proves the point. Starting at age 25, Investor A invests $12,000 a year in an RRSP for 10 years and then doesnít add anymore. Instead, he or she buys a home.

But Investor B, having devoted savings to buying a home in the early years, waits until age 45 and then contributes $12,000 a year for 20 years. Both earn 7 per cent a year on their RRSP investments.

Who has more money at age 65? Investor Aís RRSP has $1,224,876, while Investor B, who contributed twice as much, has only $526,382. Thatís a big difference.

Who would you rather be, Investor A or Investor B?

To customize the calculations to your own situation, you can use one of the many retirement planning calculators available on bank, fund company and other financial websites.

For those already with a house and mortgage and a decision to make over whether to pay down the mortgage or contribute to an RRSP, you can work through different scenarios using the Mortgage vs RRSP Calculator available at

Fortunately, for those who havenít made their contributions yet, the rules allow RRSP contributions for the 2004 tax year to be made until March 1, 2005.

The maximum you can contribute is 18 per cent of earned income (less any pension adjustment if you are part of an employer-sponsored plan). Your total contribution room is specified on Revenue Canadaís Notice of Assessment for your 2003 return.

The maximum contribution for 2004 is $15,500, but the limit is scheduled to rise to $16,500 in 2005 and $18,000 in 2006, after which it will be indexed for inflation.

The rules also allow you to carry forward any unused room indefinitely and many people are doing this, thinking they can catch up later. Statistics Canada says 78 per cent of those who filed tax returns in 2003 had unused RRSP contribution room.

But collecting unused RRSP contribution room, or using RRSP funds for home-buying or education expenses, which the rules also permit, comes with a significant cost Ė it holds back the power of compounding and means less income at retirement.

As with other things, knowledge is power. Do the RRSP number crunching yourself or with an experienced investment advisor or financial planner and reap the benefits.

Wayne Cheveldayoff is a former investment advisor and professional financial planner. He is currently specializing in financial communications and investor relations at Wertheim + Co. in Toronto. His columns are archived at and he can be contacted at

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©2005 Wayne Cheveldayoff