Kevin Greenard: Mathematical approach to RRSP contributions

Kevin Greenard

In January and February of every year we have clients that are making a last-minute Registered Retirement Savings Plan (RRSP) contribution to be applied against the previous taxation year. Clients who contribute in January 2021 or February 2021 have the option to deduct this on their 2020 income tax return, apply it against 2021, or keep it for a future year. The last day to contribute for the 2020 tax year is Monday, March 1, 2021.

A RRSP is most beneficial for those individuals who do not have a defined benefit pension plan or a defined contribution plan. A RRSP is an essential component for those clients with high incomes and no company pension plan to rely on.

article continues below

Below are the RRSP deduction limits and marginal tax brackets to assist you in quantifying the benefit of putting funds into your RRSP.

RRSP deduction limits

The RRSP deduction limit for the 2020 tax year is $27,230. This is based on taxable income of $151,278. Essentially this is calculated by multiplying $151,278 by 18 per cent. The 2021 RRSP deduction limit is $27,830. This is based on taxable income of $154,611. We already know the 2022 RRSP deduction limit will be $29,210 and is based on taxable income of $162,278. These limits are not directly linked to the indexation adjustments, unlike the personal income tax and benefit amounts as discussed below.

Indexation adjustments

Annually, we look up the indexation adjustments for personal income tax and benefit amounts. The indexation increase is only 1.0 per cent for 2021. For comparison, the indexation increases in 2020, 2019, and 2018 were 1.9 per cent, 2.2 per cent, and 1.5 per cent, respectively. Below are both the federal and provincial (British Columbia) tax brackets.

These tax brackets are adjusted annually by the indexation rate. For example, below we have the first federal marginal tax rate for 2020, which is 15.00 per cent up to $48,535 in taxable income. For 2021, we multiply $48,535 x 1.01 = $49,020. The 15.00 per cent rate will apply on taxable income up to $49,020 in 2021.

2020 tax rates

It is easy to take a mathematical approach to determine whether you should contribute to an RRSP. Let’s first look at the federal tax rates for 2020:

• 15.00 per cent on the first $48,535 of taxable income, plus

• 20.50 per cent on the next $48,534 of taxable income (on the portion of taxable income over 48,535 up to $97,069), plus

• 26.00 per cent on the next $53,404 of taxable income (on the portion of taxable income over $97,069 up to $150,473), plus

• 29.00 per cent on the next $63,895 of taxable income (on the portion of taxable income over 150,473 up to $214,368), plus

• 33.00 per cent of taxable income over $214,368.

Next, let’s look at the provincial tax rates in British Columbia for 2020:

• 5.06 per cent on the first $41,725 of taxable income, plus

• 7.70 per cent on the next $41,726 of taxable income (on the portion of taxable income over $41,725.01 up to $83,451.00), plus

• 10.50 per cent on the next $12,361 of taxable income (on the portion of taxable income over $83,451.01 up to $95,812.00), plus

• 12.29 per cent on the next $20,532 of taxable income (on the portion of taxable income over $95,812.01 up to $116,344.00), plus

• 14.70 per cent on the next $41,404 of taxable income (on the portion of taxable income over $116,344.01 up to $157,748.00), plus

• 16.80 per cent on the next $62,252 of taxable income (on the portion of taxable income over $157,748.01 up to $220,000.00), plus

• 20.50 per cent on income over $220,000.

2021 tax rates

Factoring in the indexation adjustments, the federal tax rates for 2021 are as follows:

• 15.00 per cent on the first $49,020 of taxable income, plus

• 20.50 per cent on the next $49,020 of taxable income (on the portion of taxable income over 49,020 up to $98,040), plus

• 26.00 per cent on the next $53,939 of taxable income (on the portion of taxable income over $98,040 up to $151,978), plus

• 29.00 per cent on the next $64,533 of taxable income (on the portion of taxable income over 151,978 up to $216,511), plus

• 33.00 per cent of taxable income over $216,511.

Next, let’s look at the provincial tax rates in British Columbia for 2021:

• 5.06 per cent on the first $42,184 of taxable income, plus

• 7.70 per cent on the next $42,185 of taxable income (on the portion of taxable income over $42,184.01 up to $84,369.00), plus

• 10.50 per cent on the next $12,497 of taxable income (on the portion of taxable income over $84,369.01 up to $96,866.00), plus

• 12.29 per cent on the next $20,757 of taxable income (on the portion of taxable income over $96,866.01 up to $117,623.00), plus

• 14.70 per cent on the next $41,860 of taxable income (on the portion of taxable income over $117,623.01 up to $159,483.00), plus

• 16.80 per cent on the next $62,937 of taxable income (on the portion of taxable income over $159,483.01 up to $222,420.00), plus

• 20.50 per cent on income over $222,420.

Projected tax savings

Below is a chart to show different levels of taxable income and the potential tax savings. For illustration purposes we will assume a $10,000 RRSP contribution.

 

Taxable Income Before RRSP Contribution

RRSP Contribution

Dollar Amount of Tax Savings

Percentage of Tax Savings

$20,000

$10,000

$1,016

10.2%

$40,000

$10,000

$2,169

21.7%

$60,000

$10,000

$2,820

28.2%

$80,000

$10,000

$2,820

28.2%

$100,000

$10,000

$3,336

33.4%

$120,000

$10,000

$3,917

39.2%

$140,000

$10,000

$4,070

40.7%

$160,000

$10,000

$4,424

44.2%

$180,000

$10,000

$4,602

46.0%

$200,000

$10,000

$4,602

46.0%

$220,000

$10,000

$4,815

48.2%

$240,000

$10,000

$5,350

53.5%

The above illustrates that the higher your income, the larger the tax savings for contributing funds into an RRSP. The mathematical approach is an important factor to understand and consider prior to making an RRSP contribution. For most clients who have taxable income below $40,000 we will not recommend contributing to an RRSP. Next week, we will outline many other factors that should be considered prior to making an RRSP contribution.

Kevin Greenard CPA CA FMA CFP CIM is a Portfolio Manager and Director, Wealth Management with The Greenard Group at Scotia Wealth Management in Victoria. His column appears every week at timescolonist.com. Call 250-389-2138, email kevin.greenard@scotiawealth.com, or visit greenardgroup.com.

Read Related Topics

© Copyright Times Colonist



Most Popular