It’s OK to use part of your RRSP to stay afloat during the pandemic
Q: Times are tough and my financial situation is getting worse by the day. I was laid off early in the COVID-19 pandemic and I haven't found a new job yet. I have about $35,000 saved in my Registered Retirement Savings Plan. Would you recommend that I use these funds to keep me afloat?
A: I'm sorry to hear that this is a financially challenging time for you. But in your favour, you have done a good job of saving in the past. I usually recommend that folks pretend their RRSP monies don't exist until retirement. But a worldwide pandemic is an extraordinary circumstance, and you can access these funds in a bind. Just the same, let's be smart about how and when you do so.
You may recall that you saved income tax in the years in which you originally made the RRSP contributions. For example, if you earned $50,000 one year and contributed $5,000 to your RRSP, then you would have paid tax on only $45,000. Additionally, the $5,000 invested can compound without you having to pay any income tax on the growth. All of this is terrific.
When you retire and begin to draw on these funds, then you will have to claim the RRSP withdrawals in the year you receive them and pay the income taxes owing when you file your tax return for that year. I suspect that your tax rate during your working years is higher than it will be when you retire, so this is to your benefit, too.
But you don't have to wait for retirement to use your RRSP funds. You can withdraw from them at any time. Of course, if you keep dipping into your retirement fund, there won't be much left when you do retire - that's why I encourage you to access these monies only as a last resort.
There are a few things to know. When you draw from your RRSP, the financial institution is required to withhold taxes based on the gross amount withdrawn. Think of these taxes just like your paycheque: when you earn $100, you don't get to keep all of that. Instead, your employer must withhold income taxes and other deductions, like CPP (Canada Pension Plan). The same thing will happen with an RRSP withdrawal. For pre-tax withdrawals up to $5,000, your financial institution will be required to withhold 10 per cent in taxes to be remitted to CRA (Canada Revenue Agency); between $5,001 and $15,000, the withholding tax is 20 per cent; and over $15,000, there will be 30 per cent in taxes withheld.
Because we're so close to the end of the 2020 tax year, I suggest you withdraw only part of your RRSP, not the whole amount. If you withdraw the full $35,000, then 30 per cent in taxes will be withheld, which will likely be higher than your actual tax rate for 2020; that would trigger a refund, but you won't get it until next spring when you file your 2020 tax return. Instead, figure out what you need in your hands, net of the withholding tax, just to get you through to the end of 2020. If this amount is $5,000 or less, then only 10% in taxes will be withheld on the withdrawal. With luck, you may soon get a job and you don't want to have withdrawn more than was necessary and paid the corresponding taxes. If you do need additional funds come January, then you can do a second withdrawal of $5,000 or less in early 2021 and have only 10 per cent withheld in taxes.
Let's hope that one or two partial RRSP withdrawals will buy you sufficient time to find a new job. My fingers are crossed that you are soon back to work, able to play catch-up and begin saving in your RRSP for your retirement once again.
Thie Convery, R.F.P., CFP, CIM, FMA, FCSI, is a wealth advisor in Dundas. Her column appears bi-weekly in The Hamilton Spectator. Thie invites your questions at TheSpecMoney@gmail.com or by visiting www.ConveryWealth.com.