# Bonuses and RRSP's



## KaeJS (Sep 28, 2010)

I was told my Year End Bonus would be taxed at 47% (or whatever the highest tax bracket is).

Some people are saying I should put it into an RRSP so I don't lose out on the taxes.

But... Wouldn't this bonus count as "income" if I didn't apply it to an RRSP and won't I technically only pay tax at MY (lower) marginal tax rate of 20%?

I don't want to put it into my RRSP. My RRSP is already jacked for my age, my RRSP is not with BMO (which means I would have to open one in order to contribute), and I rather have these funds in my TFSA, but I don't understand why I would have to pay 47% tax just because its a bonus. I thought it would be counted as income, and I would be taxed accordingly.

How much tax do I pay if I don't throw my bonus into an RRSP?

Any help?


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## jcgd (Oct 30, 2011)

I believe you would get a refund down to your tax bracket when you file your taxes. The bonus gets hit hard when it's paid out because it would be a large sum, but the final tax rate it based on what you made in the year.


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## KaeJS (Sep 28, 2010)

Exactly.

That's what I always thought. Thanks, jcgd. 

I rather pay my 20% tax this year. Next year, I will throw it into RRSP's.


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## peterk (May 16, 2010)

Remember that you CAN put it in an RRSP account now, thus allowing it to begin growing tax free, and claim it against a future tax year (up to 3 years in the future I think?).


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## KaeJS (Sep 28, 2010)

peterk said:


> Remember that you CAN put it in an RRSP account now, thus allowing it to begin growing tax free, and claim it against a future tax year (up to 3 years in the future I think?).


There is no cap. You can claim it in future years indefinitely.

But as I said, my RRSP is already jacked for my age and I would really rather not contribute this year. Also, I would need to open a BMO RRSP, which I do not want to do right this moment, for 2011.

I made a couple mistakes early on and I have contributed $2000 over my contribution limit to my RRSP for the last 2 years. Whoops.


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## Alaric (Dec 23, 2009)

For a young guy in his mid20's in the mid income tax brackets (between $40,000 and $80,000 inclusive of bonus). Is it better to put this into a RRSP or TFSA?

Retirement age and income at this point are unknown. But we're assuming not for at least another 30+ years.

Is it better to be taxed up front and let the gains and realization come tax-free. Or is it better to contribute a larger sum now, let the gains grow, but be taxed at realization?


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## rd_aaron (Jun 24, 2011)

Alaric said:


> For a young guy in his mid20's in the mid income tax brackets (between $40,000 and $80,000 inclusive of bonus). Is it better to put this into a RRSP or TFSA?
> 
> Retirement age and income at this point are unknown. But we're assuming not for at least another 30+ years.
> 
> Is it better to be taxed up front and let the gains and realization come tax-free. Or is it better to contribute a larger sum now, let the gains grow, but be taxed at realization?


I believe the TFSA will outperform the RRSP. A good balance doesn't hurt though. Just make sure you put investments in their proper vehicles. For example, equities and dividends are better off in the RRSP since capital gains are taxed at 50% and dividends at a lower rate as well. REITs should be in a TFSA since their distributions are considered as income and would be taxed at 100% if they were in the RRSP.


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## Rommel (Nov 1, 2010)

rd_aaron said:


> I believe the TFSA will outperform the RRSP. A good balance doesn't hurt though. Just make sure you put investments in their proper vehicles. For example, equities and dividends are better off in the RRSP since capital gains are taxed at 50% and dividends at a lower rate as well. REITs should be in a TFSA since their distributions are considered as income and would be taxed at 100% if they were in the RRSP.


I too believe the TFSA will outperform the RRSP in the future.

I think a good strategy currently, if you make a lot of money, max out the RRSP contribution and use the tax savings to load up the TFSA. Once your TFSA is caught up (maxed on an annual basis), let it ride! 

At least that is what I am doing!


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## Lephturn (Aug 31, 2009)

I disagree with rd_aaron.

I would always go RRSP first. You are going to pay tax either now or in the future - at this point you have so much time to grow the money I would take 100% of the money now (RRSP) and take the 30+ years to grow that money.

The other option is to pay tax on it now - say only 75% of that money - and then pay no tax later on. If you do this you miss out on the 25% that goes to taxes and 30 years of growth on that money!

This is financially the wrong decision if you end up paying higher taxes later - but I'll take that risk. If you end up in such a high tax bracket at retirement that this becomes "a problem".... well that's a great problem to have!


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## CanadianCapitalist (Mar 31, 2009)

rd_aaron said:


> I believe the TFSA will outperform the RRSP. A good balance doesn't hurt though. Just make sure you put investments in their proper vehicles. For example, equities and dividends are better off in the RRSP since capital gains are taxed at 50% and dividends at a lower rate as well. REITs should be in a TFSA since their distributions are considered as income and would be taxed at 100% if they were in the RRSP.


This is incorrect. Distributions (whether dividends, interest or capital gains) received in a RRSP and TFSA are sheltered from tax. The only difference between RRSP and TFSA tax wise is with foreign investments. Due to a tax treaty, US-listed investments held in a TFSA will be charged a withholding tax but US investments in a RRSP are not.


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## Alaric (Dec 23, 2009)

Lephturn said:


> I disagree with rd_aaron.
> 
> I would always go RRSP first. You are going to pay tax either now or in the future - at this point you have so much time to grow the money I would take 100% of the money now (RRSP) and take the 30+ years to grow that money.
> 
> ...



Thanks to everyone for the responses. Assuming money goes into the RRSP, then comes the part of balancing whether or not to claim those RRSP contributions now...or to save them for the future (assuming you'll be making more money and in a higher tax bracket later on the career). Am I correct in thinking these RRSP unclaimed contributions don't expire?


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## Four Pillars (Apr 5, 2009)

Really depends on a lot of future events.

I wrote a post on this

http://www.moneysmartsblog.com/tfsa-vs-rrsp-which-account-is-best-for-your-retirement-funds/

For your income range, it's impossible to determine which account will be better. In my opinion, it doesn't really matter, so even if you end up making the "wrong" choice - the loss will be insignificant.


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## MoneyGal (Apr 24, 2009)

Yes, you can carry forward the contributions indefinitely. You can also use just the portion of your contributions that covers the highest bracket. 

And also - whether you make more money in the future or not, doesn't change the tax brackets. 

As a general rule, don't hold off on claiming a contribution in the "middle" bracket today because you *might* hit the top bracket later - you need to balance holding off with the time value of money (a refund of $1000 today is preferable to a refund of $1000 next year).


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## Homerhomer (Oct 18, 2010)

KaeJS said:


> I don't want to put it into my RRSP. My RRSP is already jacked for my age, my RRSP is not with BMO (which means I would have to open one in order to contribute), and I rather have these funds in my TFSA, but I don't understand why I would have to pay 47% tax just because its a bonus. I thought it would be counted as income, and I would be taxed accordingly.
> 
> How much tax do I pay if I don't throw my bonus into an RRSP?
> 
> Any help?


It all depends how the particular payroll software works, in practice many packages take the gross pay for the pay period, let's say two weeks, and think that this is the payroll you will get through the year and tax it accordingly, hence when you have fluctuations in payroll amount throught the year you often owe or get refund upon filing your tax return.

In your case you get 46.4% of tax witheld on the paystub for the amount exceeding approximately $5100 of gross pay (if bi-weekly - because 5100 * 26 would put you in the highest tax bracked for Ontario), if the bonus, or any part of it is below this amount (in combination with your regular pay for the period) your witholding will be at the lower tax rate.

If your over contribute in your taxes on any particular paycheque you will get this refunded (or your tax liability will be reduced by this amount) when you file your personal tax return for the year which is based on the whole income for the year.


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## Homerhomer (Oct 18, 2010)

Lephturn said:


> I disagree with rd_aaron.
> 
> I would always go RRSP first. You are going to pay tax either now or in the future - at this point you have so much time to grow the money I would take 100% of the money now (RRSP) and take the 30+ years to grow that money.
> 
> ...


Some calculations can explain clearly what is better. Let's assume tax rate of 25%, and investment $5000 in TFSA and $6250 in RRSP (bumped by the tax difference), after 30 years at 7% per year will end up with 38K in TFSA, and 47.5K in RRSP, however your RRSP after tax will only be 35.6K, you are ahead in TFSA by around 7%.

With a tax rate of 33% the final result is exactly the same, for the tax rate higher than 33% it is beneficial to be in RRSP.

All calculations assume constant rate of return, same tax rate at the beginning and after 30 years, and that the tax savings at the beginning would be invested into RRSP. 

If one is in the lower tax bracked and will be very successfull investor it would be quite beneficial to be in TFSA, highest tax bracket is better off in RRSP, middle tax bracket is a wash, but there are other pros and cons of both vehicles one has to look at to take the best advantage of them.

Based on that for anyone in the lowest tax bracket it would be best to put money into TFSA and then move them to RRSP as they move to the highest tax bracket (assuming there is any money to put away).


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## m3s (Apr 3, 2010)

Homerhomer said:


> Based on that for anyone in the lowest tax bracket it would be best to put money into TFSA and them move them to RRSP as they move to the highest tax bracket (assuming there is any money to put away).


+1

Also where is the guarantee that income taxes won't go up in 30 years? Uncertainty is bad for investments and I don't like this uncertainty for the RRSP. I'd rather pay the taxes now and be done with it especially if you are in a low tax bracket. All it takes is 1 tax increase and RRSP could cost you more. Ontario tax rates are pretty low


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## CanadianCapitalist (Mar 31, 2009)

Homerhomer said:


> Some calculations can explain clearly what is better. Let's assume tax rate of 25%, and investment $5000 in TFSA and $6250 in RRSP (bumped by the tax difference), after 30 years at 7% per year will end up with 38K in TFSA, and 47.5K in RRSP, however your RRSP after tax will only be 35.6K, you are ahead in TFSA by around 7%.


Your calculations are incorrect. A $5,000 contribution to TFSA is equivalent to $6,666 in a RRSP assuming a tax rate of 25%.

The reason TFSAs are better for lower income Canadians has nothing to do with tax rates. It is simply that withdrawals from a RRSP often results in a clawback of transfer payments such as GIS but withdrawals from a TFSA do not.


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## CanadianCapitalist (Mar 31, 2009)

mode3sour said:


> Also where is the guarantee that income taxes won't go up in 30 years? Uncertainty is bad for investments and I don't like this uncertainty for the RRSP. I'd rather pay the taxes now and be done with it especially if you are in a low tax bracket. All it takes is 1 tax increase and RRSP could cost you more. Ontario tax rates are pretty low


There is no guarantee with TFSAs either. The Government may very well decide that TFSA withdrawals will be taken into account in deciding transfer payments. I like the TFSA as much as anyone and I fully agree that it may be more advantageous for many Canadians but the rules are not set in stone whether it is RRSP or TFSA.


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## Eclectic12 (Oct 20, 2010)

rd_aaron said:


> I believe the TFSA will outperform the RRSP. A good balance doesn't hurt though.
> Just make sure you put investments in their proper vehicles.
> 
> For example, equities and dividends are better off in the RRSP since capital gains are taxed at 50% and dividends at a lower rate as well.
> ...


I don't understand the thinking behind what to put into an RRSP versus a TFSA.

CanadianCapitalist has pointed out that for domestic investments while in either the RRSP or TFSA, there is no tax, regardless of how the gain is made.

So the key difference regardless of investment is that with the RRSP, withdrawals are taxed. 

As long as the choice is between tax only on withdrawals (i.e. RRSP) and no tax (i.e. TFSA),
the TFSA always wins.


Assuming of course, that the gov't does not change any of the RRSP or TFSA rules.


Now if you are comparing RRSP versus TFSA versus taxable account - that changes the ballgame.


Cheers


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## Eclectic12 (Oct 20, 2010)

KaeJS said:


> Exactly.
> 
> That's what I always thought. Thanks, jcgd.
> 
> I rather pay my 20% tax this year. Next year, I will throw it into RRSP's.


Part of the whole "extra tax" on bonus or overtime is the squeaky wheel syndrome. Maybe 1 in 1,000 will complain about the 47% tax. They'll likely go away when they file their tax return to get a large refund.

If not enough tax is paid so that money is owing, 1,020 of a 1,000 will complain.
*grin*


One factor in your favour is that likely a year-end bonus has a short payment to tax return refund time. Someone who is over taxed on overtime in Jan has to wait a long time to get the refund.

As for RRSP versus TFSA versus cash, I'd focus on what fits your plan. The only "cost" is the time between paying the tax and getting the refund after filing the return.


Cheers


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## jcgd (Oct 30, 2011)

There are other important differences such as dividend paying US stocks. If in your rrsp they aren't taxed, but in a TFSA there will be withholding taxes I believe.


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## Homerhomer (Oct 18, 2010)

CanadianCapitalist said:


> Your calculations are incorrect. A $5,000 contribution to TFSA is equivalent to $6,666 in a RRSP assuming a tax rate of 25%.
> 
> .


I stand corrected, however it will take 6 years to get the whole $1666 in refunds therefore I have used only the refund for the first year, in that case there won't be any difference in tax.


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## Eclectic12 (Oct 20, 2010)

Homerhomer said:


> I stand corrected, however it will take 6 years to get the whole $1666 in refunds therefore I have used only the refund for the first year, in that case there won't be any difference in tax.


Are you saying that if $5K is contributed to an RRSP, then the tax refund is added to the RRSP - it will take six years to get to $6666 into the RRSP?

This seems a long time compared to what I've done with RRSPs.


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## Homerhomer (Oct 18, 2010)

Eclectic12 said:


> Are you saying that if $5K is contributed to an RRSP, then the tax refund is added to the RRSP - it will take six years to get to $6666 into the RRSP?
> 
> This seems a long time compared to what I've done with RRSPs.


Assuming the rate is 25%, your first refund is 1250, you put it back into rrsp then your refund is 25% of that and so on.


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## Eclectic12 (Oct 20, 2010)

Homerhomer said:


> Assuming the rate is 25%, your first refund is 1250, you put it back into rrsp then your refund is 25% of that and so on.


Hmmm ... based on these rates, the year 2 refund puts the RRSP at 93% so while there are more years to hit 100%, I'm not sure the impact is all that relevant.

As well, this assumes one is willing to wait until the tax return is filed for the refund.

Another option is to file a _T1213 Request to Reduce Tax Deductions as Source_ so that refund is paid thoughout the same year. This would allow both the RRSP contribution and the first refund to be put into the RRSP. Assuming that there is enough RRSP room to handle both.

At the end of the year, the TFSA would be at $5K + growth while the RRSP would be at $5K + growth + $1250 spread across the year.



Cheers


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## w0nger (Mar 15, 2010)

Eclectic12 said:


> Hmmm ... based on these rates, the year 2 refund puts the RRSP at 93% so while there are more years to hit 100%, I'm not sure the impact is all that relevant.
> 
> As well, this assumes one is willing to wait until the tax return is filed for the refund.
> 
> ...


this is exactly what i do with the company i work for. I find it the most effective way to contribute towards an RRSP and the increased cash flow means a higher monthly contribution towards savings in the RRSP. Better to contribute monthly than wait for the tax refund. Ideally, i try to work it out so that my income is + or - $100 every year...


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## cardhu (May 26, 2009)

KaeJS said:


> I have contributed $2000 over my contribution limit to my RRSP for the last 2 years. Whoops.


I wondered whether that’s what you meant by “jacked”. If you have no contribution room available, then it’s a moot point, no? ... you couldn’t avoid the tax on your bonus even if you did put it into RRSP. Note that you can’t place it into RRSP now and defer the deduction until later, unless you have contribution room available, so again, a moot point. 

The tax withheld from your bonus likely won’t resemble the actual tax attributable to the bonus, for the reasons described by homer. It’s a simple payroll function. If you want to estimate more accurately, use one of the  online tax forms to estimate your taxes … once with the base salary and then with the bonus added … the difference in the two amounts is the tax attributable to the bonus ... if you’re in Ontario’s lowest bracket, then it should be somewhere in the range of 20% to 26% ... excluding the clawforward effect on any separate benefits you might be collecting. 



Alaric said:


> For a young guy in his mid20's in the mid income tax brackets (between $40,000 and $80,000 inclusive of bonus). Is it better to put this into a RRSP or TFSA?


Alaric ... for most people, the RRSP remains the better choice for retirement savings ... whether you’re one of “most” people is impossible to say without knowing more ... however, some general observations are certainly possible ... if you don’t have a defined benefit pension plan, and if you aren’t planning in your 20s to collect welfare in your 70s (ie. GIS), then it is extremely probable that RRSP will generate more after-tax wealth for you than TFSA could. 

Timing is another matter. There are ways to optimize the use of RRSP – to get a better bang for your RRSP buck – and doing so might mean holding off for a bit before beginning RRSP contributions ... there’s nothing wrong with filling up your TFSA early on, and then shifting it to RRSP later, as long as you have enough TFSA room to accommodate it. But be aware that the approach of delaying RRSP contributions until later in life can, and often does, backfire. 



Alaric said:


> Assuming money goes into the RRSP, then comes the part of balancing whether or not to claim those RRSP contributions now...or to save them for the future (assuming you'll be making more money and in a higher tax bracket later on the career). Am I correct in thinking these RRSP unclaimed contributions don't expire?


You are permitted to contribute now and defer the deduction to a later year, but there’s a limit to how long it makes sense to do so. A year or two is usually fine, but any more than that, and its counterproductive. 



homer said:


> Let's assume tax rate of 25%, and investment $5000 in TFSA and $6250 in RRSP (bumped by the tax difference), after 30 years at 7% per year will end up with 38K in TFSA, and 47.5K in RRSP, however your RRSP after tax will only be 35.6K, you are ahead in TFSA by around 7%.


You’re comparing apples and oranges. If the tax rate is the same at contribution and withdrawal, then an RRSP produces exactly the same after-tax result as a corresponding TFSA ... There are two reasons your calc shows the TFSA coming out ahead ... the first is that you put more money into it at the beginning ... $5000 after-tax dollars is more than $6250 before-tax dollars ... the second reason is that a portion of the RRSP contribution is exposed to double-taxation ... something that never occurs in real life ... you only deducted 80% of the contribution, but you’re taxing 100% of the withdrawal. 

Money invested inside an RRSP is before-tax money, while money invested in a TFSA is after-tax money. They are different units of measurement. If we assume a tax rate of 25%, and we account for the different units of measurement, then a $5000 TFSA contribution is equivalent to a $6666 RRSP contribution ... or a $5000 RRSP is equivalent to a $3750 TFSA contribution ... or any other pairing of numbers expressing the same ratio ... any of these would be apples to apples comparisons. 

The question of whether & when a “refund” on RRSP contribution might be “reinvested” is a red herring. It doesn’t make any difference to the question of which approach is the more tax efficient. If you “reinvest” the “refund”, you’re just investing more money. There’s nothing wrong with investing more money, of course, but it has no bearing on assessing the tax-efficiency of the original contribution. Every contribution to RRSP stands on its own merit, and it never relies on the subsequent deposit of additional funds, in order to reach its full tax efficient potential.


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