What is the difference between an RRSP and a RRIF? / LIRA vs. LIF?

Hello, my soon to be or already retired, friends. I hope you’ve been well and are excited for the better weather we have been having. I find a lot of my clients associate the warm weather (or the outdoors) with retirement.

Good segway, right? I’m sure by now my blogs have given you more questions than answers. There is a lot to know in the financial world and I will do my best to teach you something new with each blog. You should understand the ins and outs of retirement accounts, and how they work. I’ll help explain the different retirement account types and how they are used.

Today, we will focus on the difference between an RRSP account and a RRIF account. Alternatively, what the h*ll is a LIRA and better yet, what is a LIF account? The financial industry loves acronyms so I will explain all of these to make your life a little easier. Hopefully the eureka moment happens. If you already know this stuff, I hope you have a good plan in place to utilize these accounts for your retirement.

So, lets get started.

A Registered Retirement Savings Plan (RRSP) is a tax-deferred savings account designed to encourage saving for retirement. You may have used this during your working years to reduce your taxable income and therefore, how much tax you pay.

Let’s say you earned an annual income $75,000 in 2023. All else being equal, you’d owe about $14,000 in taxes (not including your payments to CPP, EI and benefits). Now, if you contributed $8,000 to your RRSP in 2023 – your annual income would be reduced to $67,000 ($75,000 - $8,000) and would only be taxed on the $67,000. You would owe roughly $11,750 to the CRA. That means your $8,000 RRSP contribution saved you $2,250 in taxes.

Ie. Your tax savings are $14,000 - $11,750 = $2,250

This will help reduce how much you owe in taxes. In some instances, an RRSP can provide you a tax refund. The refund is helpful to save for the future, paydown existing debt, take a family vacation... whatever floats your boat.

Further and perhaps what most Canadians know the RRSP for – saving and growing for retirement. When you contribute money to a RRSP, your funds grow tax deferred. Meaning that they're exempt from being taxed until it's withdrawn. How much you can contribute annually is subject to a maximum contribution amount, known as your RRSP contribution or deduction limit. Your RRSP contribution limit for 2024 is equal to 18% of your 2023 earned income, or $31,560 (whichever is lower) plus previous unused contribution room less any pension adjustments. You can find your RRSP Contribution limit on your Notice of Assessment (NOA).

An RRSP account is like a nice hearty soup. The ingredients you use are based on your unique taste buds (risk level) – you can use a combination of like the following products:

1.????? Savings account

2.????? GICs (Guaranteed Investment Certificates): An investment that offers a guaranteed rate of return over a fixed period (often 1 – 5 years)

3.????? Mutual Funds: An investment fund that pools the money of individual investors – like you and purchases different companies like Amazon, Walmart, Dollarama, etc. they can be as risky or safe as you can handle.

4.????? Government and Corporate Savings Bonds: Investments that work like an IOU (I-Owe-You), wherein investors make loans to a company/government, and usually earn a fixed rate of return.

5.????? Securities listed on a designated stock exchange – typically the companies you wish to invest in and have grow for you.

6.????? ETFs: An investment fund that holds the same mix of investments as a stock or bond market index and trades on a stock exchange.

There are also different types of RRSP’s: 1) individual RRSP (just your name), 2) Group RRSP – where your Employer and you contribute to it and 3) a Spousal RRSP. For example, Tom can contribute to his wife Tiffany’s Spousal RRSP meaning he gets the tax deduction on his income. The account keeps growing in Tiffany’s name and is useful for income splitting in the future. That is an entirely different article for a different day, but I could not exclude it from this blog. Isn’t money fun???

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Did you know that as your life transitions, so can your accounts?

It can be helpful to think of a Registered Retirement Income Fund (RRIF) as an extension of your RRSP. While a RRSP helps you to save for retirement, a RRIF provides income during retirement through regular withdrawals. You can hold the same investment options (mutual funds, ETFs, GICs, etc.) within a RRIF, with one key difference: rather than focusing on putting money into your account, you’re regularly taking it out. Tough to change mindsets on a dime but this is where we really help our clients understand the psychological / emotional side of retirement.

RRIFs have a minimum annual withdrawal amount that MUST BE TAKEN OUT per government legislation. If you are bored and want to calculate it yourself: https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/completing-slips-summaries/t4rsp-t4rif-information-returns/payments/minimum-amount-a-rrif.html. If you’d rather not do math, let your Financial Advisor to do it for you. The percentages increase each year as you get older.

Should you take out additional income above the minimum withdrawal amount, taxes will be withheld at the time of withdrawal, as financial institutions are required to collect tax right away. For example, Tony’s minimum withdrawal amount for the year is $10,000, but he wants to withdraw $20,000. Tony would only pay withholding tax on the $10,000 (about $2,000).?The minimum is age 55. If you have a spouse, you can also base your minimum RRIF withdrawal amount on their age if they are younger. For instance, if you are 65 but your spouse is 55, you can withdraw a lower percentage of money which helps your investments grow for longer and reduce how much tax you pay in the earlier years. This strategy may work for you, it may not for others.

What you’ll come to notice in these blogs is there is no PERFECT answer. There is an answer for you, tailored to your unique situation which is why I’ll always recommend working with a professional that knows you and what you’re looking to accomplish. If you don’t think you are with the right fit: either at the bank, an independent or doing it on your own and you have more questions than answers…. please seek help. It is your money, and you should have confidence in who is helping you with it.

For the record, you can still withdraw from an RRSP account. Sometimes it makes sense to keep as RRSP account if you still plan on working part-time here or there in retirement. You have options for when you can change your RRSP to a RRIF.

You MUST convert an RRSP to a RRIF by December 31 of the year that you turn 71. Again, government’s rules… not mine. So don’t shoot the messenger. They want their tax money back. For those asking, can I just withdraw it all and move it to my TFSA so it grows tax free into the future? Sure, you can. If you’d like to pay potentially hundreds of thousands in taxes. All RRSP and RRIF income withdrawn personally is taxable. Assuming it is your only income in 2024, below I have an example of a $500,000 withdrawal in Ontario. It would lead to a roughly $225,000 tax bill.

Not recommended

Hopefully that helps you understand more about the differences between RRSP and RRIF. If you have any questions, this money nerd is happy to help. Those two accounts are powerful tools to provide you with the retirement of your dreams on the beach in Fiji… I hope ?? But they aren’t the only ones.

Similarly, a LIRA (Locked-In Retirement Account) is a type of RRSP that holds locked-in pension funds. They usually come from group plans at work such as your SunLife, Manulife, Canada Life or other plans. Employer puts in X, and you put in X. That kind of a plan. You have options when you retire to either:

a)????? Keep it with the employer

b)???? Transfer to another group plan (if moving to a new employer that has one)

c)????? Turn it into a monthly payment

d)???? Transfer to a LIRA account

The LIRA can continue to grow for you, or you can use it for spending. While you cannot withdraw directly from a LIRA, it can be converted to a LIF (Life Income Fund). I can see how our industry can seem so confusing. So many acronyms and accounts to use for the SAME PURPOSE. Providing you a retirement income, which is what a LIF does. The downside is that the LIF account is restrictive. It has restrictions on withdrawals; it has a maximum and a minimum annual withdrawal limit. A strategy that works for some of our clients is to take the maximum from their LIF account, and less from their RRIF.

Why?

By taking out less from the RRIF, you allow it to grow further (if you have good investments of course) giving you and your family flexibility for future withdrawals if you need more in life. Not recommended for all, but it could make sense for you.

Another strategy we often review / recommend to clients to provide for greater flexibility in terms of when and how much you withdraw… is called unlocking. I won’t bore you with the technical details or government rules. That can be for a later time but if a federal LIRA account holder is 55 or older, they can consider a one-time unlocking of up to 50% of the balance (when withdrawn). Why is this important for you? If you are ready for retirement and needing income, you can effectively make your life 10x easier and more flexible.

Unlocking a LIRA means 50% goes to a LIF and the other 50% goes to your RRSP or RRIF. More in those accounts is better than being told you can take between $5,000 - $10,000 only from your LIF. Want to spend more in your early years of retirement? I’d unlock what portion you can.

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In summary, RRSPs are for saving for retirement, while RRIFs are for withdrawing money for retirement income. LIRAs hold locked-in pension funds, while LIFs provide retirement income from these funds. Each type of account has its own rules and implications for managing retirement funds. There are many strategies to give yourself a retirement paycheque, this is one of them. That’s my topic in a few weeks, see you then.

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DISCLAIMER:

The contents of this letter does not constitute an offer or solicitation for residents in any other jurisdiction where either Cody Weber and/ or Sterling Mutuals is not registered or permitted to conduct business. The opinions expressed are those of the authors and do not necessarily reflect the views or opinions of Sterling Mutuals Inc. Mutual funds provided through Sterling Mutuals Inc. Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus carefully before investing. Mutual funds are not guaranteed, their values fluctuate frequently, and past performance may not be repeated.