The Canadian government introduced the Registered Retirement Savings Plan (RRSP) in 1957 to motivate income earners to save for retirement. RRSP crafters also believed that this financial or investment account is helpful because contributions reduce taxable income.
Furthermore, contributing 18% of your yearly salary offers a chance to build a small fortune or even retire a millionaire. For this year, the RRSP dollar limit is $31,560, and only contributions made 60 days from year-end can be included in your 2024 tax return.
Since money growth in an RRSP is tax-free, you can unlock wealth over time through compounding. There are strategies you can implement that made RRSP users before you millionaires today.
Start early
The first and proven strategy is to start early. Contributing now and throughout your working life can put you into overdrive on your journey to a million. Maximize the yearly limits only if your finances allow. Also, you can add any unused RRSP contribution room to next year’s limit.
Hold income-producing assets
The RRSP is a savings plan, not a savings account. It can hold various income-producing assets or interest-bearing financial instruments such as bonds, mutual funds, Guaranteed Investment Certificates (GICs), exchange-traded funds (ETFs), and stocks.
Many Canadians purchase dividend stocks, house them in an RRSP, and reinvest the dividends (and tax refunds, too) for faster compounding of the balance. Note that all earnings inside the account are tax-exempt, but you pay taxes when you withdraw money. Most users are in a lower tax bracket when they retire and draw funds from the plan.
Invest wisely
Holding cash in a tax-sheltered investment account like an RRSP is not advisable. The sound strategy is to make the money work by investing wisely. Dividend stocks increase investing profits or deliver the highest returns. As mentioned earlier, your money compounds exponentially through the power of compounding. More importantly, it’s possible to hit one million over time.
A Dividend Aristocrat like Canadian Western Bank (TSX:CWB) is ideal in an RRSP because the quarterly payouts are reliable and uninterrupted. The $2.59 billion regional bank has increased dividends for 31 consecutive years. If you invest today, the share price is $26.84, while the dividend yield is 4.99%.
The RRSP contribution limit can purchase 1,175 shares. Given the opportunity to reinvest the dividends four times a year, the $31,537 investment will grow 169.6% to $85,028.60 in 20 years. Around 12 tranches of the investment amount and the same compound frequency will result in a $1 million RRSP balance.
In the first quarter (Q1) of fiscal 2024 (three months ending January 31, 2024), common shareholders net income declined 6.9% to $87.9 million versus Q1 fiscal 2023, while provision for credit losses increased 110.6% year over year to $17.9 million. Chris Fowler, chief executive officer of CWB, said the bank is well-positioned for credit losses, although he noted that more clients are paying down debt than taking out loans.
Things to avoid
Two things with financial consequences can sidetrack the journey to one million. Do not overcontribute because of the 1% per month penalty on the excess contribution. Second, avoid withdrawing funds before retirement because doing so means immediate withholding tax. You should be problem-free without the two disruptions.
