Most of us should be getting a clearer picture of our 2024 incomes as we head into autumn, and that could bring tax-saving opportunities to investors.
If you make regular contributions to your registered retirement savings plan (RRSP), for example, it might make sense to divert some of that cash to your tax-free savings account (TFSA) before the end of the year.
In other cases, bigger tax perks could come from boosting your RRSP contributions and saving allowable TFSA space for another year.
It all depends on your expected income for 2024. That includes the regular tally on pay stubs from your employer and any side-gig you might have.
That amount will be taxed according to the going federal, provincial and territorial marginal tax rates available on the Canada Revenue Agency (CRA) website. Tax savings are achieved by lowering your taxable income.
How RRSP contributions lower your taxable income
The RRSP tax refunds many of us enjoy in the spring are based on income that would have been taxed at a higher marginal rate if the contribution was not claimed. The higher your income, the higher the marginal tax rate, the bigger the tax savings.
If your income is under $40,000, as a simplified example, you would roughly be in a 20 per cent tax bracket and would receive a refund of around $1,200 on a $6,000 contribution.
In comparison, the marginal tax rate of about 30 per cent for income over $45,000 would result in a refund of $1,800 on a $6,000 contribution.
With RRSP contributions, the rich do get richer.
Too much in an RRSP could be a tax trap
There are lifetime limits on RRSP contributions but over-contributing could have big tax drawbacks even if you stay well below those limits, and you might want to hold off on any further contributions; at least for now.
Any gains they generate through investments are taxed at the same marginal rates when they are withdrawn in retirement. If you claim your contribution in the lowest tax bracket, the best you can hope for is to withdraw it in the lowest tax bracket.
As the investments in your RRSP grow, you could end up having to withdraw your money in a higher tax bracket. If that happens you will not only pay more in tax, but risk having your Old Age Security (OAS) benefits reduced if your income is too high.
If having too much in your RRSP is not an issue and 2024 is shaping up to be a high-income year, you might consider boosting this year’s contribution to bring your taxable income to a lower marginal rate.
If you’re short on cash, and have access to a low-interest line of credit, you can borrow against the refund and pay it back when it comes in the spring.
When to divert RRSP contributions to a TFSA
If your 2024 income will be low and taxed at a lower rate, a more tax-efficient use of your investment dollars would probably be a contribution to a tax-free savings account (TFSA), which is not tax deductible, but contributions and gains are never taxed when withdrawn.
If you have already made RRSP contributions in 2024, or make regular contributions, you can keep making them. You can claim them in future years when your income is higher and your tax savings are greater.
If you’re still not sure what your 2024 income will be, don’t worry. You have until March 2025 to make an RRSP contribution against your 2024 income, and May 2025 to decide if you want to claim it as a deduction.
There are a lot of moving parts in a tax strategy. Consider speaking with an expert.
