Q: I am a permanent resident living in Canada. Is it worth me investing in an RRSP, when chances are I will be back in my home country in say 10 years?
What would be the penalty of withdrawing my RRSP on my return home?
A: People who are living temporarily in Canada or Canadians who are planning to retire abroad often wonder if they should contribute to an Registered Retirement Savings Plan (RRSP). Likewise, Canadian expats often end up on temporary work assignments in other countries and must navigate foreign retirement and tax planning.
In your case, Tim, while you are a Canadian resident, you must file a Canadian tax return. Canada taxes its residents on their worldwide income. To the extent that you have earned income like employment or business income, you will generate RRSP room. RRSP deductions can be deducted against other sources of income and are tax deductible on your tax return. RRSPs grow tax-deferred until you take withdrawals.
If your taxable income is $50,000, your marginal tax bracket ranges from 28-37% depending on your province of residence. At $100,000 of income, the rate is 35-46%. And at $200,000, your marginal tax rate is 41-50%. As a result, RRSP contributions and the resulting tax deductions can help you save a lot of tax. A large RRSP deduction may drop you into a lower tax bracket, but these are the rates that apply to the first dollar of RRSP deduction you claim.
The RRSP tax savings are just temporary, whether you’re a Canadian resident or non-resident in retirement, Tim. This is because RRSP withdrawals are eventually taxable. You can take RRSP withdrawals at any time, but the latest you can defer those withdrawal is the year that you turn 72. This is regardless of your residence. By December 31 of the year you turn 71, you must either convert your RRSP to a Registered Retirement Income Fund (RRIF) or purchase an annuity from an insurance company with withdrawals or payments beginning by December 31 of the year you turn 72.
RRIFs have minimum withdrawals each year based on your age or your spouse’s age – you can choose one or the other. The lower the age you opt for up front, the lower the required withdrawals as a percentage of your year-end RRIF account value.
Annuities are like pensions in that monthly payments are pre-determined and made to you by the insurance company based on the lump-sum that you give them up front. The calculation of your annuity entitlement is highly sensitive to interest rates, with lower rates at the time of conversion meaning lower payments.
RRIF withdrawals and annuity income are both taxable, so the decision of RRIF versus annuity is not tax driven. It’s an investment, longevity and cash flow planning decision.
If you retire abroad, Tim, RRIF withdrawals and annuity income are subject to Canadian withholding tax. That tax rate depends on your country of residence in retirement and the withholding tax rate is generally 15-25% depending on the tax treaty (or lack thereof) between Canada and the country you live in at that time.
Lump-sum RRSP withdrawals are generally subject to 25% tax.
Most countries have a foreign tax credit mechanism whereby your Canadian tax withheld at source is credited against your foreign tax payable on the income in your country of residence. This prevents double taxation.
Some countries do not tax foreign retirement income from a Canadian RRSP, RRIF or registered annuity.
Regardless of the tax withholding or tax treatment in your country of residence, it’s likely that your tax rate in Canada during your working years will be higher than your tax rate in retirement. Canada has relatively high tax rates and most retirees have lower incomes than during their working years anyway, regardless of where they retire.
So, from a tax perspective, contributing to an RRSP probably makes sense for you, Tim, as long as your income is modest and definitely if it is high, assuming you don’t have high-interest rate debt. If your income is low, a Tax Free Savings Account (TFSA) may be a better choice than an RRSP. Most countries don’t recognize the special tax status of Canadian TFSAs, but not all countries tax foreign investment income or capital gains anyway. And at least the TFSA investments grow tax-free while you’re here in Canada regardless of how they would be taxed in retirement.
From an investment perspective, it may not be ideal to have to manage a Canadian RRSP from another country, since it won’t be possible to transfer it there. But you are certainly allowed to have a Canadian RRSP as a non-resident. Financial institutions may be picky about not only accounts but also eligible investments for non-residents in non-registered, non-RRSP accounts, but RRSPs tend to have less restrictions.
On that basis, given 10 more years in Canada, I think you would probably benefit from leveraging your RRSP, Tim. If you were only here for a year, maybe you would think twice.
Jason Heath is a fee-only, advice-only Certified Financial Planner (CFP) at Objective Financial Partners Inc. in Toronto, Ontario. He does not sell any financial products whatsoever.
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