With the tax season upon us, it makes sense to look at options that will help you lower your tax bill. For instance, Canadians can lower their tax liability by allocating funds to the Registered Retirement Savings Plan (RRSP).
One of the most popular registered accounts in Canada, the RRSP encourages residents to save for retirement. You can hold a variety of qualified investments across asset classes in the RRSP. Moreover, any contributions towards this account are exempt from Canada Revenue Agency taxes.
You are eligible to contribute up to 18% of your taxable income (until a certain amount) towards the RRSP. So, if you earned $100,000 in 2022, your RRSP contributions will be limited to a maximum of $18,000, decreasing your taxable income to $82,000.
As the RRSP is a retirement fund, you can hold quality blue-chip stocks in this account and benefit from compounded gains over time. Given the recent pullback in shares prices of TSX bank stocks, let’s look at two undervalued gems you can hold in your retirement fund right now.
Royal Bank of Canada stock
The largest company on the TSX in terms of market cap, Royal Bank of Canada (TSX:RY) is valued at $179 billion. At the time of writing, RY stock is down 14% from all-time highs, increasing its dividend yield to 4.1%.
Despite a difficult economic environment, RY stock is forecast to increase its adjusted earnings per share to $12.67 in fiscal 2024 (ended in October) from $11.19 per share in fiscal 2022. So, the TSX stock is priced at 10 times forward earnings.
Bay Street is bullish on Royal Bank of Canada stock and expects shares to gain 12% in the next 12 months. After accounting for dividends, total returns will be closer to 16%.
Canadian Imperial Bank of Commerce stock
Canadian Imperial Bank of Commerce (TSX:CM) offers shareholders a forward yield of 6%. The banking giant derives 75% of its earnings from Canada and 18% from the United States. Its massive exposure to the Canadian economy has dragged the share price lower by 31% from all-time highs.
Investors are worried about rising mortgage rates that might result in lower demand as well as an uptick in delinquency rates. Mortgage loans also account for 55% of the company’s total loan book, and 37% of these loans were issued at variable rates.
But CIBC has managed to thrive amid multiple recessions, and the TSX stock is priced at just eight times forward earnings. It’s also trading at a discount of 15% to consensus price target estimates.
Why should you hold Canadian banks in your RRSP?
The Canadian banking sector is highly regulated, making it difficult for new entrants to enter the market. Canadian banks are also very conservative, allowing them to grow earnings and dividends at a sustainable pace.
For instance, the financial crisis in 2008 led to several banks in the U.S. rolling back dividend payouts. But most Canadian big banks, including Royal Bank of Canada, maintained dividends, showcasing the resiliency of their balance sheets.
In the last 20 years, RY has increased its dividend at an annual rate of 9.9%, while CIBC stock has increased its payout by 7.4%.