Deadline decisions

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Doug Nelson, author of the book Master Your Retirement, says an RRSP loan to borrow for tomorrow makes sense in some cases. (RUTH BONNEVILLE / WINNIPEG FREE PRESS)

Financial institutions are at it again. It's February and they're putting on the full court press about last-minute RRSP contributions.

If you already haven't had it hammered into your noggin, the deadline to contribute to your RRSP for the last tax year -- 2011 -- is the end of February.

Normally, it's March 1, or 60 days into the new tax year. But with 2012 being a leap year, the last contribution day is Feb. 29.

It's all fine and dandy to know about the deadline, but according to a slew of surveys by mutual fund firms and the big banks, we could use the nagging.

A recent TD Canada Trust survey of 40-somethings found 32 per cent don't even have an RRSP. Less than half of this age group contributes regularly and 38 per cent fear they're not saving enough.

Regardless of whether you're on the slow decline of your fifth decade of life or not, here are a few RRSP tips to consider in the coming days to gild your retirement.

Get regular...

Ironically, financial pundits mention the deadline for contributions in one breath and with the next, they say you really shouldn't be making last-minute contributions. They'd prefer you contribute year-round.

"It can be daunting to find a great chunk of money before the RRSP deadline," says Shawnnette Fraser, a manager with TD Canada Trust. "That's why we always recommend setting up a pre-authorized purchase plan."

If you're new to the RRSP game, this is a good first step in retirement saving. Figure out an acceptable amount of money you can have withdrawn automatically from your savings account every month to contribute to your RRSP. Then have your banker set it up for you.

This strategy has a number of advantages. One, you're paying yourself first. You save some of your earnings before spending it on beer, Jets paraphernalia and photo-radar tickets.

Two, regular contributions create a framework for financial planning. You will know every year how much you've contributed and how much you'll receive as a tax refund in the spring. This helps you understand your tax situation better, so you can structure your contributions to provide efficient tax savings.

Take this example:

You earn $47,544 a year and you contribute $500 a month to your RRSP for a total of $6,000 in contributions. Because RRSP contributions reduce your taxable income, you will receive a refund of taxes paid on $6,000 of earned income from last year. The size of the refund you'll receive is based on your highest marginal tax rate.

For income above $41,544 up to $67,000, the rate is 34.75 per cent. By contributing $6,000 a year, you are bringing your marginal tax rate to a lower tax bracket -- 27.75 per cent -- because you've reduced your taxable income to $41,544. And your tax refund every year will be $2,085 -- or 34.75 per cent of $6,000.

The other advantage of monthly contributions is dollar-cost-averaging, says Aurele Courcelles, director of tax planning at Investors Group.

This strategy ensures contributions, often invested in mutual funds, are not dependent on market timing. Rather than making one large contribution, when the stock market may be at a peak and ready to crash, you're making regular contributions regardless of market ups and downs. Dollar-cost-averaging helps smooth out volatility over the course of decades. And that often leads to a handsomer retirement picture.

"If your rate of return is relatively consistent, you'll have a bigger nest egg at retirement by making regular contributions throughout the year instead of making a big contribution once a year," he says.

Plan for the last minute...

Making a lump-sum contribution in February does make sense in some circumstances, says Courcelles.

You may want to consider topping up your RRSP to reduce your net income, which can increase net-income-tested tax benefits such as the child tax benefit. Or you may want to top up your RRSP to reduce your taxable income to the next lowest marginal tax rate -- similar to the example mentioned in the previous section.

"If I'm making $45,000, I'm paying 34.75-per-cent tax for every incremental dollar I make," Courcelles says. "If I make an RRSP contribution to get myself down to $41,500, that's where I get the biggest bang for my buck, because I'm getting my tax deduction at 34.75 per cent."

Savings beyond that amount may be better put to use in a TFSA. You won't get a tax refund, but you're putting away money to grow tax-free that can be withdrawn tax-free whenever you want. (Unlike TFSA money, RRSP savings grow tax-deferred, but withdrawals are taxed as regular income.)

In some other cases, it makes sense to contribute more to your RRSP, but you only deduct a portion of the contribution for the past tax year and save the rest for tax years to follow, Courcelles says.

"If you know you're going to bump yourself down below the $41,500, for example, you can still contribute more to get it working for you on a tax-sheltered basis, but you don't have to declare all the deduction and save a portion until next year."

An important consideration is whether you believe you'll benefit from delaying the deduction from your income until the next year.

"You're not claiming the deduction right away, so you're not getting your tax relief right away," he says. "By not getting it now or the year after, you don't have that money in your hand."

But having the deduction available for the future may be handy if you are getting a wage increase this year or next that would bump you into a higher tax bracket.

One note of caution: Don't contribute more than your annual contribution limit. To find out your limit for 2011, refer to your 2010 Notice of Assessment.

Borrow for tomorrow...

Some financial advisers suggest RRSP loans before the deadline. But loans come with risks that are not suitable for everyone.

"The RRSP loan isn't bad because at least you're making the contribution, but you need the discipline to repay it as quickly as possible because the loan interest is not deductible," Courcelles says.

"Plus, if you take that loan regularly, you're always playing catch-up."

Instead of making a monthly loan payment, you could contribute the same amount to a pre-authorized payment plan every month for the next tax year and those to follow.

Still, an RRSP loan makes sense in some cases, says Doug Nelson, author of Master Your Retirement.

You already have a pre-authorized plan in place, but your RRSP could still use a boost. In this instance, an RRSP loan is a good option as long as you can live without spending your tax refund. Here's why:

"If you are contributing monthly, my favourite thing to do in the entire world is to look at how much you've contributed throughout the year and take a short-term top-up loan in February," he says. "If you run the math and you figure you're at a 35 per cent marginal tax rate, you could probably take a loan for about 35 per cent of what you already contributed for the past year, so the total refund you get equals the loan."

It works like this: You earn about $67,000, putting you in the 34.75 per cent tax bracket. Your RRSP contributions are $1,000 a month for a total of $12,000. Take out an RRSP loan in February for about $4,200. Your total contribution is $16,200. You pay a few dollars in interest on the loan for two months. Then you get a refund of $5,629.50 that pays off the loan and leaves money to spare.

"This is an immensely more effective strategy than doing a great big RRSP loan to get caught up after a number of years of not contributing," Nelson says.

"If you can afford $700 a month on an RRSP loan, then why don't you just do the same amount as a contribution to your RRSP instead and do the top-up loan at the end of each year so you're not behind the eight ball with a long-term loan."

Using this strategy can increase your RRSP by 30 to 40 per cent over a period of decades, and potentially add hundreds of thousands of dollars to your retirement savings with very little risk.

Got the money, need investment advice...

A stumbling block for many, whether making regular contributions or a last-minute one, is where to invest the money, says Serge Pepin, head of BMO Investments. According to a recent survey by BMO, 56 per cent of Canadians are unsure of where to invest their money.

"If an investor is very nervous about things to come, there are guaranteed investment certificates -- GICs," Pepin says.

The best bet these days are shorter-term GICs. RateSuperMarket.ca lists rates for all GICs available today. Rates for one-year GICs are about one per cent. That's not great, but they look a lot better than five-year non-redeemable GICs that pay less than two per cent interest.

This is a short-term solution. Instead, consider investing in the bond and stock markets for better long-term returns to grow savings ahead of inflation. Pepin says if you don't know where to invest, meet an adviser who can offer suggestions.

A good adviser can help find opportunities regardless of market conditions. Still, do some research on your own. Check out Morningstar.ca for information on mutual funds. You can look up the basics -- past performance and fees -- on most mutual funds and ETFs (exchange traded funds) without subscription.

If you are contributing to a portfolio regularly, check on it once a year and rebalance asset allocations to ensure it reflects your goals.

"It's like buying a car," Pepin says. "You need to do maintenance every six months."

Looking for a more ready-made answer on where to invest?

Nelson says a monthly income fund might fit the bill.

"It gives you monthly yield and it's generally a mix of balanced and conservative strategies that can be defensive when markets go down and earn a reasonable amount when markets go up."

The management costs are generally low on income funds -- about 1.5 per cent a year -- and they invest mainly in dividend-paying companies, preferred shares, bonds and real estate. They pay a monthly yield for income if you need it, or the yield can be reinvested.

Income funds aren't flashy, but given the uncertainty of the markets these days, it's slow and steady -- not jack-rabbit fast -- that will get you to the retirement finish line.

giganticsmile@gmail.com

Republished from the Winnipeg Free Press print edition February 18, 2012 B10