The idea is that you’ll be debt free in retirement and therefore needing less money to live.

A perfectly sound strategy.

However, in practice it doesn’t always work out. Especially for Canadians making less than $111,773.

Under this threshold, you will pay 20.50% income taxes.

To get any tax advantage in retirement, you will have to drop your retirement income below $55,868.

With CPP, OAS, and any pension you might have, this will be nearly impossible to achieve.

You will likely put the money in and take it out in the exact same tax bracket, achieving a nice tax windfall for the government.

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Taking this RRSP misconception one step further, assuming you invested $100,000 and compounded that overtime to $400,000 and you take the money out at 20.50% (over several years in retirement)...

You now have to pay the government $82,000 versus the $20,500 you originally paid on the $100,000 contribution.

So while you grew your retirement savings by 4x, you also grew your taxes owing by 4x.

That’s unfortunate.

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Married couples get an estate planning advantage with RRSPs. The surviving spouse gets to inherit all RRSP and Pension money from their spouse without paying taxes.

However, that privilege ends when the surviving spouse also passes away.

It is then that the government comes to collect.

Just how much?

When you die with RRSP money, your estate has to withdraw 100% of your RRSP or pension account and pay taxes.

Example:

You die with $400,000 left in your pension account. In Saskatchewan, you will pay a marginal tax rate of 47.50% or $190,000.

Another windfall for the government…
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When you have a pension, Canada Pension Plan, Old Age Security, and RRSPs, your retirement income can really add up.

That’s a good thing.

Where it gets tricky is when the government says you’ve saved too much and starts taking back your Old Age Security benefits.
A retirement income higher than $90,997 will cause the government to clawback your $713 monthly OAS benefit.

An income higher than $148,065 and your OAS benefit is completely eliminated.
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By the end of the year you turn 71, you must convert your defined contribution pension and RRSP money to a RRIF (Registered Retirement Income Fund) or PRIF (Prescribed Retirement Income Fund).

This mandatory conversion creates mandatory minimum withdrawals.

The government is basically saying you can’t defer your investment growth forever.

It’s time to pay up. Even if you don’t want to.

At age 71, the minimum withdrawal is 5.28% of your account balance at the beginning of the year.

If you have a million dollars, that's $52,800 in mandatory withdrawals.

And for the previous Old Age Security point above, this could lower your OAS benefits as a result.

Sometimes your RRSPs are the only place to bail yourself out of a pinch.

You can certainly withdraw your RRSP early but you’ll have to add that withdrawal back to your income for the year.

This is especially painful if you’re still working and making a good wage because you could be in a high tax bracket.
You also need to be mindful of withholding tax.

For your protection, your institution will send some of your RRSP withdrawal to CRA on your behalf.

Unfortunately, it might not be enough.
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However, if you’re still working, you might be in a 35% tax bracket. Meaning you will still owe an additional 25% (or $1,250) at tax time.

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With all these cons for RRSPs, you’re probably wondering what alternative you might have?

Well, with some planning, the Tax-Free Savings Account is still a widely misunderstood retirement savings account.

You should choose a TFSA if: