Wednesday WTF: August 9, 2017
Investment Vehicles
Welcome back to Wednesday WTF, my weekly rant about things that waste your money. Today’s post is not about a thing that wastes your money, more of an activity that wastes your money. Today’s post is about investment products and how not participating in them costs you money. We are in the middle of Investment Week here at Budget Boss so in this post, I will go over the more common investment vehicles available to Canadians. Yesterday I spoke about your investor personality which will dictate what types of investments you will own. Once you know that, you can be directed to the best possible products to store your savings in. Investment products can be thought of as buckets holding different types of investments. You can choose whatever investment you want to put in the bucket, and depending on which bucket you chose, personal goals can be accomplished. Money within the buckets is differentiated by the different tax implications they have. How the growth of the investment is taxed, along with the withdrawal implications is what is important to know. There are also some possible government grants that can be obtained for additional growth. This post will give you the breakdown of each of these products and how they can help you.
Tax-Free Savings Account (TFSA)
The TFSA came into effect in 2009 and since then has gained great popularity throughout Canada. The account is essentially what the name says. Money growing inside the TFSA grows tax-free and when withdrawn, you pay no tax as well. This makes the TFSA an excellent product for short term savings goals. Increasingly the TFSA has become a retirement savings vehicle as for those with long time horizons the TFSA provides amazing tax efficiency. The TFSA has a yearly contribution limit of $5,500. You can, however, catch up on previous years missed contributions. You can deposit a maximum of $52,000 into your TFSA as of 2017 if you were 18 years old or older during eligible years (2009). Any withdrawal from your TFSA can be re-contributed the following year.
Registered Retirement Savings Plan (RRSP)
The RRSP was initially developed to help self-employed people save for their retirement. As the decline in Employer Sponsored Pensions became more prevalent, the RRSP became the most widely used product for Canadians to save for their retirements. What makes the RRSP so popular is its great tax implications. Holders can deposit up to 18% of their earned income for the year (up to $24,930, 2015 limit). Each dollar deposited into your RRSP lowers your taxable income for the year and saves you money in the form of taxes paid. For those who do regular contributions, they often receive large tax refunds every spring. This makes it an attractive account for many Canadians. Unlike the TFSA, money withdrawn from the RRSP is taxable at the account holder’s marginal tax rate at the time of withdrawal. This is often during retirement when income is lower thus making the taxes paid lower hopefully. There are first home buyers and lifelong learning plans that will allow you to withdraw early from your RRSP and pay no tax. Knowing what the conditions and tax implications of withdrawing from your RRSP is vital so ask an expert.
Registered Education Savings Plan (RESP)
The RESP was designed to allow for parents to save for their child’s education in a tax deferred vehicle. What that means is that contributions into the RESP are made with after-tax dollars so the account grows tax-free. Withdrawals from the RESP are made by the recipient (child) and they pay taxes on the withdrawals at their marginal tax rate. Why this is attractive is because when a child is in post-secondary education they pay little to no taxes thus making the RESP virtually tax-free. Another reason the RESP is so attractive is that contributors have access to the Canada Education Savings Grant (CESG). The CESG is designed to complement the RESP by adding additional funds to the account. The government may contribute up to $500 annually and up to $7,200 in the lifetime of the account. The lifetime contribution amount for the RESP is $50,000.
Registered Disability Savings Plan (RDSP)
The RDSP was designed to help families save for future costs associated with having a disability like health care costs and living expenses. It is similar to the RESP in so much that it is a tax-deferred product that may be eligible for government grants. To help your savings grow the government may add grants at the initial deposit and throughout the lifetime of the account. There is a lifetime contribution limit on the RDSP of $200,000 and the government may add up to $70,000 of grants and bonds. Money withdrawn from the RDSP is taxed as income. If you qualify for the Disability Tax Credit (DTC) you automatically qualify for the RDSP. With a large amount of money in the form of government grants available, the RDSP is a highly attractive product for those that qualify.
Those products are just a few that you can park your money in to allow for growth and tax advantages. Depending on what your goals are, each one offers great reasons to invest. The key is that regular contributions will make the power of compound interest your best friend. Time and patience are your allies in investing so getting started as soon as possible is best. All of these products can be invested in what you wish based on your risk tolerance including stocks, bonds, GIC’s, mutual funds, Index Funds, and many others. Talk to an investment representative to find out which product is best for you.
Thanks for reading my post today and don’t forget to tune in tomorrow where I will be discussing the more popular reasons why people don’t get started investing. Have a great day friends!
“The need for empowering investors to have information on the way their own money is invested is not going away.” – Donald Luskin
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Joseph James Francis is a Financial Advisor. You can find him on various social media platforms and at www.budgetboss.ca.