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5 essential questions about retirement

Contributing to a registered retirement savings plan (RRSP) is the first step in planning your retirement. At this stage of life, it's crucial to use existing tax rules to your advantage.

The following are 5 essential questions about RRSPs and retirement:

You can make withdrawals from your RRSP at any time before it's converted to a registered retirement income fund (RRIF). To get the most out of the capital you've accumulated in your RRSP, plan out which withdrawals to make from your personal RRSP, spousal RRSP, investments and non-registered accounts.

RRSP withdrawals don't entitle you to tax breaks, but RRIF withdrawals and annuities acquired with an RRSP, RRIF or pension entitle you to a tax break on the first $2,000 at the federal level, $2,000 in Quebec and $1,228 in Ontario (in 2009). Eligibility requirements for the tax credit vary from the federal to provincial levels.

If you don't receive a pension and your taxable income allows you to benefit from the pension income tax credit, you may consider converting your RRSP to an RRIF or annuity to be able to get at least $2,000.

Read about both tax-saving strategies: Retirement: RRIFs, LIFs and taxation.

Your last chance to contribute to your RRSP is December 31 of the year in which you turn 71, provided you still have contribution room. The amount contributed may be deducted in the current year or in following years, depending on what is better for you in terms of your marginal personal income tax rate (tax rate on last taxable portion of your income).

The year you turn 71 is also the last year you may convert your RRSP into an RRIF or annuity, if you haven't already done so.

After December 31 of the year in which you turn 71, if you still have unused contribution room, you may still contribute to a spousal RRSP until the year in which your spouse also turns 71.

RRSP withdrawals are ideal for people who need cash only occasionally because they provide the greatest amount of flexibility.

Money deposited into a RRIF can only come from an RRSP or another RRIF. RRIFs are better suited to people whose needs are better served by a steady stream of income from periodic (weekly, monthly, quarterly, etc.) withdrawals.

There are no administration fees, regardless of how many periodic transfers you make in a year. You can convert your RRIF to an annuity at any age and even reconvert it into a RRIF if you haven't yet turned 71.

The difference between RRSPs and RRIFs

  • RRIFs: Beneficiaries are required to make annual minimum withdrawals at a rate fixed by tax laws and based on the age of the annuitant or spouse. Additional amounts may be withdrawn and may vary from one year to the next.
  • RRSPs: No minimum withdrawal amount requirement.

You may convert your RRSP into a life annuity or a fixed-term annuity with guarantees payments to age 90. You can add options to a life annuity such as a guaranteed duration of term, continuation upon death and cost of living adjustments.

You can also convert only part of your RRSP into a RRIF and the other part into an annuity.

However, people who receive a pension from their employer already get the advantages of a life annuity and should convert their RRSP into a RRIF. This way, they maintain control over their retirement savings and can make withdrawals based on their needs, while taking into consideration the minimum withdrawal amount.

The goal of planning as a couple is to be able to benefit from income splitting at the time of withdrawal and thus take advantage of lower tax rates. By paying taxes on the income of 2 people instead of 1, the amount of taxes paid by a family drops since tax tables are designed for individual income and not for joint income.

Income splitting is subject to the "3-year rule". The contributing spouse cannot invest in the other spouse's RRSP the year of withdrawal or the 2 previous calendar years. It's the contribution dates that count, not the deduction year. Therefore, it's best to contribute before the end of the calendar year instead of in the first 60 days of the following year.

If you made a final contribution of $2,000 to a spousal RRSP in February 2008 and your spouse withdraws funds in December 2010, you'll be taxed on up to $2,000 of the amount withdrawn by your spouse, even if the 2008 contribution was made for tax year 2007. The same contribution made in December 2007 would have allowed your spouse to pay the taxes on the 2010 withdrawal.

The best time to withdraw money from your RRSP

In general, retirees are advised to withdraw from their RRSP only after having exhausted their non-RRSP savings. Depending on your family situation, marginal tax rate, size of your RRSP and income level, it may be best to withdraw from your RRSP first.

Speak to a financial advisor to determine which is best for you.

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