For most people, getting a windfall of $10,000—through an inheritance, a severance payment or a small lottery win on the weekly Scratch ‘N Win card—can make a huge difference in their lives. Whether you invest in your small business, save it towards a long-term goal like retirement, pay off hefty consumer debt or help your kids with their college education bills, doing so can speed up your journey down the road to financial independence. But first you need to figure out the best place to put your money to get the maximum payoff. Here are some options.
Invest in an RRSP
The key goal of retirement planning is to ensure you have enough money to maintain your lifestyle. You need to save enough that, along with government benefits, your annual retirement income ranges from 60% to 80% of pre-retirement income. If you’re careful with money and expect a modest, yet comfortable, middle-class lifestyle, living off 60% of your pre-retirement income should be enough. If you want to travel the world in style, golf regularly or buy a cottage, plan on 80% of pre-retirement income.
RRSPs are the most efficient way that the majority of Canadians can get there. Contributions are tax-deductible and tax-deferred until the money is withdrawn. You can contribute up to 18% of your previous year’s earned income and unused contribution room can be carried forward indefinitely.
Spousal RRSPs let you split future retirement income with a spouse. Contributors deduct the money on their tax returns but when it is withdrawn from the RRSP or RRIF in retirement, the income is taxed in the spouse’s name, at their (hopefully lower) tax rate. This works well when a higher-income spouse contributes for a lower-income spouse, maximizing tax savings on the contribution and minimizing taxes payable when withdrawn in retirement.
Richard Barrette, 39, and his wife Kathleen, 37, are making use of a recent $23,000 severance Richard received. He will use $10,000 to repay money they owe to their own RRSPs through the Home Buyers’ Plan, a program that allows you to temporarily withdraw funds tax-free to buy a home. The rest will go into a spousal RRSP for Kathleen, who is now pregnant with their second child. “We want to avoid the taxes right now and rolling the severance payment directly over to the RRSP allows us to do just that,” says Richard, who works for the public service in Ottawa. “I have enough RRSP contribution room from prior years to make this rollover.”
Marko Koskenoja of Sault Ste. Marie, Ont., is also focused on his RRSPs. The 53-year-old sales rep and his wife Ruth, 46, invest their retirement savings in low-cost index mutual funds. “I like the feeling of security healthy savings gives me,” says Marko. “I believe in self-sufficiency.” The good news? If Marko leaves his $10,000 RRSP contribution untouched, earning 6% a year, it will double to $20,000 in 12 years.
Set up a fund for a refugee family in your community. That’s what 47-year-old Anita Van Nest of Newmarket, Ont., did last year with her extra $10,000. “It opened my eyes to how much I really didn’t need the money,” says Van Nest, who is studying to be a minister. “It was just wonderful for the spirit.”