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PLANS & PRODUCTS
HIGH INTEREST SAVINGS ACCOUNTS
High interest savings accounts offer higher interest rates than the typical savings accounts offered by banks and other financial institutions. These rates can sometimes be as good as those for GICs, but your funds are not locked in.
Some banks may want a minimum deposit amount before you qualify for their best rate, such as $5000. You need to confirm the requirements before putting your money into any savings vehicle, because there are plenty of financial institutions that do not have these minimum requirements.
High interest plans may be a good vehicle for short-term savings. Interest that you earn will be taxable as income to you for the current tax year, which is an important consideration when choosing where and how to invest your money.
CERTIFICATES/GUARANTEED DEPOSIT ACCOUNTS
Guaranteed Investment Certificates, also called GICs, are investments offering a guaranteed rate of return over a specific time period. For example, if you buy a $1000, 3-year GIC at an interest rate of 2%, you will receive your $1000 plus 2% back in 3 years.
Investors consider GICs to be low-risk investments, because they are backed by the funds of the financial institution and usually CDIC (Canada Deposit Insurance Corporation). However, there are limits on the amount CDIC will cover. Because GICs have a lower risk, they also have a lower rate of return than many other investments, such as stocks and mutual funds.
You can hold GICs in many types of accounts, including RRSPs and TSFAs. The term of your deposit can be as little as 30 days or as long as 10 years. Generally, the shorter the term, the lower the rate offered by the financial institution. Rates fluctuate with current interest rates and the lending rate set by the Bank of Canada (BOC).
If you need to withdraw funds from your GIC early, you will likely pay a penalty on your interest rate. In some cases, this means you receive no interest, only your principal amount back.
Investment funds are pooled funds meant to offer professional management and diversity to investors.
The types of securities held in these investments are based on the stated goals of the fund. Some funds are meant to provide current income, and will hold securities such as government and corporate bonds, money market funds and dividend-paying stocks. Other funds may have growth as their aim, and would invest in more aggressive securities, such as equity and small capitalization stocks. Investment funds can also be allocated based on a geographical preference, such as holding securities only from Canada, Latin America or Asia. Because of the different types of securities involved, the risks involved with investing in investment funds varies widely.
Many of these funds receive active management by a fund manager. This person is in charge of selecting and changing the securities held in a fund, with the aim of maximizing returns for investors. Other funds are more passive in nature, choosing to hold securities to match an existing index or exchange. For example, a fund might try to hold the same companies in the same proportion as the Toronto Stock Exchange (TSX).
Investment funds are generally bought and sold directly from the issuing company. You do not purchase shares from an exchange, such as the TSX. All of these funds come with management fees, to cover the cost of managing the fund. When looking to invest in any of these funds, you want to consider the cost to purchase the fund, the management expense ratio (MER) and the aim of the fund. Fees are usually lowest for the passively managed funds, such as those following an index, and highest for the actively managed funds. Expect fees that range anywhere from 1.5% of your investment to 4.5%.
Segregated funds can only be sold by insurance companies and they come with a few added benefits that other investment funds don’t have. Segregated funds have maturity and death benefit guarantees. This means the insurance company guarantees a portion of your investment, usually 75%. Upon your death or the maturity of your account, the insurance company will pay out at least 75% of your initial investment (subtracting any withdrawals you have made since starting your investment in the fund). This guarantee helps protect you against market fluctuations.
Annuities are investments that provide guaranteed level-income payments for a set period of time. The income level depends on how much money you put into your annuity. The time can be set for 10 or 20 years, or guaranteed for life, depending on your needs. Only insurance companies are allowed to offer annuities. Although they have fallen out of favour over the last decade or two (due to lower interest rates), it is important to understand what annuities are and how they might work for a portion of your retirement income. Some people find annuities add peace of mind for their retirement plans.
Term Certain Annuity or Annuity Certain
This is a guaranteed income payment for a specific period of time, usually 5 to 25 years. You give an insurance company a lump sum of your money, and they return it to you with interest in monthly, quarterly, or annual payments, until the guarantee period is over. These are particularly useful when you have a specific expense you wish to cover, for a set period of time. (Think of getting 7 year financing on a car at 0%. If you have the full amount to pay in cash, you might consider a 7 year Term Certain Annuity. You then know you will have the monthly cash flow to make the payments. You will also earn a little bit of interest on the annuity.)
If you pass away during the term of this annuity, your beneficiary or estate is entitled to all of the payments that have not yet been made.
Single Life/Joint and Survivor Annuity
This annuity is guaranteed to provide income for the remainder of your life (or you and your spouse in the case of a Joint and Survivor Annuity). The biggest objections that most people have with this option are that the funds are locked in with the insurance company and you might not get much of your principal back if you die shortly after buying the annuity. This was once the case, but there are increasingly more options available to help defray these possible risks and ensure that you are far more likely to get the full value from the funds you place in a life annuity.
A joint and survivor annuity is a great way to help you receive full value, as one spouse often outlives the other by a fair number of years. You can also have payments that are guaranteed for 5 to 20 years, so if you do die early you can guarantee a minimum amount will be paid out to your beneficiaries or your estate.
There are plenty of options available, but you should never consider putting all of your money into an annuity, unless you have some very specific needs that can only be solved by using this investment option.
REGISTERED RETIREMENT SAVINGS PLANS (RRSPS)
A Registered Retirement Savings Plan (RRSP), is an investment account which allows you to defer paying tax on the money you put into the account. When you make a contribution to your RRSP, you get a tax deduction for the amount contributed for the current taxation year. (You also have the first 60 days in a new year to make your contribution for last tax year).
For example, if you contributed $1000 in the current year, you would receive a tax deduction of $1000 when you complete your taxes next year. This deduction reduces your taxable income. The higher your tax rate, the higher your tax savings will be. The amount you can contribute is based on your previous year’s income. The federal government provides this figure for you each year, after you file your taxes, in a notice of assessment. If you cannot contribute your full available amount in any one year, the extra amount not contributed carries over into future years.
You may withdraw your investments from an RRSP, but that amount will be included in your taxable income when you next file your taxes. The government also stipulates that companies who issue RRSPs are required to withhold some of those taxes at the time of the withdrawal. These funds are forwarded to the Canada Revenue Agency on your behalf and will offset the taxes you will eventually owe on the withdrawal. (You are not subject to double taxation.)
Withholding Taxes on RRSP Withdrawals
% OF TAX WITHHELD
From $0 to $5,000
10% (5% in Québec)
From $5,001 to $15,000
20% (10% in Québec)
30% (15% in Québec)
RRSPs can continue to accumulate your contributions until the year you turn 71. Your RRSP must then be cashed out, or converted into income, like a Registered Retirement Income Fund (RRIF).
TAX-FREE SAVINGS ACCOUNTS (TFSAS)
Tax-Free Savings Accounts (TSFAs) are new in Canada, having been introduced in the 2008 Federal Budget. They became effective January 1, 2009. The TFSA is a new registered plan that allows Canadians over the age of 18 to save up to $5,500 each year, with all of the growth being tax-free on withdrawal. This means if you withdraw $10,000 fro your TFSA, you do not need to pay any taxes on it.
The TFSA follows in the footsteps of the Tax-Exempt Special Savings Account, which has been available in the UK since 1990 (and replaced by Individual Savings Accounts in 1999), and the Roth Investment Retirement Account in the US in 1997.
Contributions to a TFSA are not tax-deductible (unlike RRSPs), however they do grow on a tax-free basis (similar to RRSPs). The big advantage to the TFSA is that you can withdraw funds from your TFSA and never pay any tax on the growth. Furthermore, if you cannot make your full contribution in any given year, all of your unused contribution room carries forward with you indefinitely. Any money you withdraw in a year can be replaced the following year (i.e. withdrawal amounts are added to your total unused TFSA contribution room next year).
The contribution limit of $5,000 each year is indexed to inflation (in $500 increments). The amount increased for the first time in 2013, so you can now contribute $5500 per year.
Many people think the TFSA has been misnamed, since the name Tax-Free Savings Account gives the (false) impression that you can only invest in a savings account. However, any investments that you can hold in an RRSP are eligible for a TFSA, such as mutual funds, bonds and GICs. This makes the plan more of a Tax-Free Investment Account, rather than a savings account.
LOCKED-IN RETIREMENT ACCOUNTS (LIRAS)
The Locked-in Retirement Account (LIRA) and similar Locked-in Retirement Savings Plan (LRSP - available in British Columbia only) are needed when you transfer funds out of your pension plan. If you have a company pension and leave the company before retirement, you are typically given a few choices for handling your funds. You can move it to a pension with your new employer, leave it in your employer’s plan and collect whatever you have available on retirement, or move it into a locked-in account. Locked-in accounts are managed like RRSPs, meaning you have multiple investment options to choose from, such as stocks and bonds.
Unlike an RRSP, the funds in a LIRA cannot be cashed out early, as they are designated specifically for retirement. They are meant to be converted into income when you choose to retire, and can be converted to a Life Income Fund (LIF), Locked-in Retirement Income Fund (LRIF), a Prescribed Retirement Income Fund (PRIF - Saskatchewan and Manitoba only), or a Life Annuity from an insurance company.
The general rules of your LIRA are determined by the pension legislation your employee falls under. The federal government and each province have their own sets of rules. Your LIRA may have slightly different options available, depending on your plan’s jurisdiction.
Some jurisdictions allow for unlocking of LIRAs or LIFs under special circumstances such as:
becoming a non-resident of Canada
shortened life expectancy
court enforcement orders (spousal or child support)
There are also options in many provinces to allow you to "unlock" all or part of your locked-in account outside of the circumstances mentioned. It is important to note that "unlocking" these plans is not the same as cashing them out. Although you can take them in cash (making the withdrawal fully taxable that year), you can also transfer them to sheltered plans and withdraw the funds as you would a RRIF.
REGISTERED RETIREMENT INCOME FUNDS (RRIFS)
A Registered Retirement Income Fund (RRIF) is the most common option people choose when they must turn thir RRSP savings into retirement income. A simplified way to look at RRIFs is to think of them as the opposite of RRSPs. With RRSPs you are making deposits to save up for retirement. With RRIFs, you take the money back out to provide you with retirement income.
Although the Tax Act currently states that you must convert your RRSPs into RRIFs by the end of the year in which you turn 71, you are allowed to convert some or all, of your RRSPs any time you wish. Once an RRSP has been converted to an RRIF, you are required to withdraw a minimum amount, beginning in the year after you convert. (If you convert your RRSPs into RRIFs this year because you are now 71, you don’t need to take any money out until the next calendar year.) However, you can choose to start taking the funds immediately if you wish.
To get an idea of what your RRIF minimum withdrawal will be based on the funds currently in your RRSP, you can work out the math yourself (take 90 minus your age and then divide the result into 1), or you can try this handy calculator. For example, if you are 50 today, you would take 90 - 50 (your age) = 40. Then take 1 divided by 40 = 0.025. If you multiply that result by 100, you would get 2.5% as your minimum withdrawal amount of your RRIF.
One thing to keep in mind when taking minimum payments from your RRIF is that the Income Tax Act does not require taxes to be withheld on your minimum payment. This could mean a bit of a tax hit when you file your taxes next year, because all money withdrawn from your RRIF is taxable in the year you get it back. (Remember that RRSPs and RRIFs are tax deferral plans, not tax avoidance plans. You get a tax break when you put the money into the RRSP, but have to pay tax when you eventually take the funds back out.)
LIFE INCOME FUNDS (LIFS)
A life income fund, or LIF, is similar to a RRIF. However, LIFs are only for converted locked-in plans such as LIRAs. LIFs are a maturity option for locked-in funds and are meant to provide you with retirement income.
While RRIFs only have a minimum withdrawal amount each year, LIFs are subject to both an annual minimum withdrawal and an annual maximum withdrawal. The maximum payment stipulation is meant to ensure you have funds for life and cannot deplete the plan too early. A life annuity-based formula is used to calculate these amounts for you. Once you reach the age of 80, the funds in your LIF must be used to purchase a life annuity.
REGISTERED EDUCATION SAVINGS PLANS (RESPS)
Registered Education Savings Plans, or RESPs, are designed to help you save for your child’s post-secondary education. Steep costs for post-secondary education may seem insurmountable, but proper planning will help ensure your child’s educational future.
The federal government created RESPs to help you with education planning. When you open an RESP, the growth in the plan is tax sheltered until you withdraw the funds. When your child begins to use the RESP to pay for school, the withdrawals are taxed in their names, not yours. Your child will likely be in a lower tax bracket than you, lowering the overall tax burden for your family.
The federal government also created the Canada Education Savings Grant (CESG) to help you save. Your children are eligible to receive the grant up to and including the year they turn 17. Everyone is eligible, as this grant is not geared to income. When you contribute to an RESP, the government provides a grant up to 20% of your contribution for the year. The maximum grant per year is $500 per year until your child turns 17. To receive this full grant, you would need to deposit $2500 per year to the plan.
To open an RESP all that your child needs is a Social Insurance Number (SIN). Getting started is that simple.
Along with RRSPs and TFSAs, you can also hold non-registered investment accounts. These accounts receive no special tax treatment, but also have no penalties for withdrawal. You can choose to hold a variety of funds in a non-registered plan, including investment funds, stocks, bonds and GICs. The interest, dividends and capital gains you receive from these funds are taxable for the current tax year.
Why would you choose a non-registered plan? Maybe you have maximized your RRSP and TFSA contributions and you still have funds to invest. You may want an emergency account with easy access or you may want a non-registered plan when you know you will be making frequent deposits and withdrawals.