A novice’s guide to understanding RRSP contribution limits

To read more chapters, click below:

Chapter 1: All that you want to know about RRSPs

Chapter 3: RRSP vs. TFSA which one is better? Pick the best investment option

Chapter 4: T5 Tax Form: Statement of Investment Income in Canada

Contributing to an RRSP is an excellent strategy for future financial planning. When you contribute to your RRSP, you gain the ability to claim a tax deduction. This deduction serves as a valuable tool to reduce your total taxable income, which, in turn, can lead to significant savings on your income tax bill. It essentially allows you to defer the taxation on the contributed amount until you eventually withdraw funds from your RRSP, usually during your retirement years when your income may be lower, resulting in potentially reduced taxes at that time. This tax-deferral strategy is a core feature of RRSPs, making them a powerful tool for long-term retirement planning and tax optimization.

Additionally, any income generated within the RRSP remains tax-deferred until you decide to withdraw it, potentially enabling you to grow a more substantial retirement nest egg over time. In this chapter we’ll discuss the RRSP contribution limits and how you can make the most of this investment.

What is the RRSP contribution limit?

Your RRSP contribution room, sometimes referred to as the contribution limit, represents the maximum amount you are allowed to contribute to your Registered Retirement Savings Plan (RRSP) within a specific tax year. This limit is set by the government and varies from year to year, depending on your income and other factors. It signifies the upper threshold for your RRSP contributions during the tax year in question. RRSP contribution room serves as a cap on the amount you can deposit into your RRSP, and it holds significance for your tax planning.

When you make allowable contributions to your RRSP, you gain the option to claim these contributions as deductions when you file your annual tax return. This deduction has a twofold benefit –

• Tax Deferral: By contributing to your RRSP and claiming the deduction, you reduce your taxable income for the year in which you made the contribution.
• This essentially postpones the taxation of the contributed sum until you decide to withdraw it from your RRSP, which usually occurs during your retirement years when your income may be at a lower level. This deferral can potentially lead to reduced overall taxes, providing a tax advantage for your retirement savings.
• Immediate Tax Savings: Claiming RRSP contributions as deductions lowers the total taxable income used to calculate your income tax liability for the current year. This can lead to an immediate reduction in the amount of taxes you owe or potentially result in a tax refund when you've overpaid your taxes through deductions from your paycheck.

In summary, your RRSP contribution room represents the maximum yearly allowance for contributions, and making allowable contributions and claiming them as deductions can provide both short-term and long-term tax benefits, contributing to your overall financial well-being and retirement planning.

How do I calculate RRSP contribution room?

The Canada Revenue Agency (CRA) handles the calculation and monitoring of everyone's contribution room, relieving you of that responsibility.

However, if you're interested in calculating your RRSP contribution limit for the year yourself, or if you wish to verify the accuracy of your Notice of Assessment, here's a step-by-step guide.

• Determine Your Earned Income: RRSP contribution room is based on your earned income, which includes employment income, self-employment income, rental income, and other sources of taxable income. Make sure you are aware of your total earned income for the previous tax year.
• Check for Pension Adjustments: If you are a member of a pension plan or have contributions to a deferred profit-sharing plan (DPSP), you should verify the pension adjustment for the year. This information is reported on your T4 slip if you are a salaried employee. It reduces your RRSP contribution room.
• Determine Your RRSP Deduction Limit: The Canada Revenue Agency (CRA) provides your RRSP deduction limit on your Notice of Assessment or Notice of Reassessment. You can also check it online through the CRA's My Account service.
• Consider Unused Contribution Room: If you haven't contributed the maximum amount to your RRSP in previous years, you might have unused contribution room. This can be carried forward, allowing you to contribute more than your annual limit.
• Calculate Your Maximum Contribution: To calculate your maximum RRSP contribution for the current year, use the following formula:
• Maximum Contribution = (18% of Earned Income from the Previous Year) - (Pension Adjustment) + (Unused Contribution Room from Previous Years)
• Account for the Annual Contribution Limit: Keep in mind that there is an annual contribution limit set by the CRA. As of my last knowledge update in September 2021, the annual limit is $27,830 for the year 2021. If your calculated maximum contribution exceeds this limit, you can contribute up to the annual limit.
• Record Your Contributions: Keep track of your RRSP contributions throughout the year to ensure you don't over-contribute.

By following these steps, you can determine your RRSP contribution limit for the year.

What is an unused RRSP contribution?

Unused RRSP contributions pertain to eligible RRSP contributions made in prior years that were reported but have not yet been utilized as a tax deduction.

Let's illustrate this with Grace’s situation –

Grace fully utilized their $12,000 RRSP contribution room in 2022. Upon filing their taxes, they disclosed this contribution on their tax return but made the decision not to apply it as a deduction at that point. The $12,000 left unclaimed represents Grace's unused RRSP contribution.

You might wonder why Grace deferred their deduction. It turns out they received a significant salary increase recently, elevating their 2023 income to $120,000. Recognizing that this higher income would place them in a higher federal tax bracket, Grace decided to delay claiming the deduction until they file their next year's return.

By making this strategic choice, they enhance their tax savings to 26% on the $12,000, leading to $3,120 in tax savings. This is more advantageous compared to the $2,460 in savings they would have achieved based on their 2022 tax bracket of 20.5%.

When can I start contributing to an RRSP?

There is no specific minimum age requirement for initiating contributions to a Registered Retirement Savings Plan (RRSP) in Canada. However, certain financial institutions may have their own policies and may require you to have reached the age of majority in your province or territory.

As long as you have eligible earned income and contribution room, you can start contributing to an RRSP. It's worth noting that contribution room is based on your previous year's earned income and other factors. This means that you need to have reported income on which you can base your RRSP contributions.

In general, it's beneficial to start contributing to your RRSP as early as possible, as this allows your investments more time to grow and take advantage of the tax-deferred benefits provided by the RRSP. Additionally, early contributions can help you build a larger retirement nest egg over time.

Unlocking the mechanics of RRSP contribution room

Every year when you work and tell the tax people at the Canada Revenue Agency (CRA) about your income, you get more room to put money into your RRSP. You get this new room based on 18% of your earned income. Earned income means the money you get from working, not money from investments or government benefits. But there's a limit to how much you can put in each year, and that limit changes every year.

Keep in mind that if you put in more money than your limit, you might face penalties.

How can I know my RRSP contribution limit?

You have two methods to confirm your RRSP contribution limit –

• Review Your Notice of Assessment: After you file your tax return, the CRA will provide you with a Notice of Assessment. This document will detail your contribution room earned in the previous tax year, any carried-over room from previous years, and your total contribution limit for the upcoming tax year.
• Utilize online resources: If you are unable to find your previous year's assessment, you can access the same information by logging into your CRA My Account. Navigate to the RRSP and TFSA section, where you will find details regarding your RRSP contribution room.

What happens if I overcontribute to my RRSP?

In Canada, overcontributing to your Registered Retirement Savings Plan (RRSP) can result in financial penalties and tax consequences. The Canada Revenue Agency (CRA) imposes strict rules and limits on RRSP contributions to ensure fair tax treatment. Here's what happens if you overcontribute to your RRSP –

• Penalty for Excess Contributions: If you deposit more funds into your RRSP than your contribution limit permits, you will face a penalty tax. This penalty amounts to 1% per month on the surplus that exceeds your RRSP contribution limit by $2,000 or more.
• Tax Deduction Reversal: Overcontributions that remain in your RRSP can't be deducted from your income for tax purposes. If you overcontribute and claim a deduction for the excess amount on your tax return, the CRA will reassess your return, and you will be required to pay tax on the excess contributions.
• Corrective Actions: To rectify an overcontribution and avoid penalties, you can:

a. Withdraw the excess amount: You can withdraw the excess contribution from your RRSP, and it will be included in your taxable income for the year in which you made the overcontribution. You won't receive a tax deduction for the withdrawal.

b. Carry Forward: If you have unused RRSP contribution room from previous years, you can carry forward the excess contribution to a future year when you have sufficient contribution room without incurring penalties. However, you should still correct the overcontribution as soon as possible.

• Monitor Your Contribution Limit: It's crucial to keep track of your RRSP contribution limit, which is typically calculated as a percentage of your earned income. The CRA provides this limit on your Notice of Assessment each year. Contributions made through employer pension plans, group RRSPs, and personal RRSPs should be considered when calculating your total contributions.

To avoid overcontributions, you should always be aware of your RRSP contribution room and exercise caution when making contributions. Seek guidance from a financial advisor or tax professional if you are unsure about your RRSP contributions to ensure compliance with tax rules and avoid penalties.

How much unused RRSP contributions can I carry forward?

Unused RRSP contributions have no expiration date. If you have reported unused RRSP contributions in the past but have not yet applied a deduction for them, you can carry them forward indefinitely.

You also have the option to deduct these unused RRSP contributions, as long as they don't exceed your deduction limit, even after reaching the age of 71, which is the point at which new RRSP contributions are no longer permitted.

It's important to note that you can optimize your tax savings by applying the deduction in a year when your taxable income, and therefore your tax bracket, is higher.

Frequently Asked Questions (FAQs)

1. What is the RRSP contribution limit in 2023?

In 2023, the RRSP contribution limit has increased to $30,780, compared to the previous year's limit of $29,210 in 2022.

2. Can I contribute 18% of my income to an RRSP?

If you do not have access to a pension plan provided by your employer, you can generally contribute up to 18% of your earned income to your RRSP, with certain restrictions in place. Nevertheless, the presence of an employer-provided pension will impact the maximum amount you can allocate to your RRSPs.

3. What is the lifetime limit of an RRSP?

You have the flexibility to continue making contributions to your RRSP, adhering to your maximum allowable contribution limit, until the year you turn 71. This means you can keep adding funds to your RRSP account each year, taking advantage of its tax benefits, until the end of the calendar year in which you reach 71 years old. After this point, you can no longer contribute to your RRSP, but you have several options such as converting it to a Registered Retirement Income Fund (RRIF) or purchasing an annuity to generate retirement income.

4. What if I have RRSP contributions that I didn’t report?

If you inadvertently left out any of your RRSP contributions when submitting your tax return, you can choose to revise the respective tax return to incorporate the missing details.

5. What does RRSP deduction limit mean?

The RRSP deduction limit represents the maximum deduction you are permitted to claim for contributions made in a given year to your RRSP, PRPP, SPP, or to your spouse's or common-law partner's RRSP or SPP. The Canada Revenue Agency (CRA) is responsible for establishing this limit.

6. Why do I have unused RRSP contributions?

When you contribute to your RRSP and report those contributions to the tax authorities but choose not to claim a tax deduction for them in the current year, you accrue what are known as "unused RRSP contributions." These unclaimed contributions can be applied to reduce your taxable income in a subsequent tax year.

7. Where can I find and claim unused RRSP contributions?

Your Notice of Assessment will specify whether you possess any unutilized RRSP contributions and, if so, the corresponding amount. As previously mentioned, you can fill out Schedule 7 on your tax return to make use of previously reported unused RRSP contributions.