Posted by Tim Stobbs on March 7, 2007
Q: As someone in their mid-20s earning $32,000 in Ontario, who expects to earn more in the near future (~$40,000), is it worthwhile for me to invest in RRSPs, or is it better to save up the unused contributions for a couple of years until the tax break is bigger? I have heard that if you are making less than you expect to make when you’re retired, then the tax benefit is lost. Of course the money would be invested, just not in a registered plan. Comments?
A: A quick look at the marginal tax rates for Ontario will show your first tax bracket changes over when you hit $35,488 in income for 2007. So for now there isn’t much of a point going for an RRSP since you most likely will be in the same tax bracket in retirement. Yet once you do pass that mark you start to climb brackets again at $37,488 and then again at $62,485. So once you are earning over $40,000 I would try to contribute enough to drop you back under that $35, 488 bracket for the most tax savings. That $4512 RRSP investment could generate about another $1295 in a tax refund. If that’s too much to save try to get back under that $37,488 bracket by investing $2512 and you would get about a $879 tax refund.
One very useful thing you should take advantage of with your current low income bracket is the negative taxation on dividends that qualify for the enhanced tax credit. Basically the government gives you a tax credit for your dividends you get, but once your in the lowest tax brackets you actually get a larger credit than your tax bill would normally be, so you actually reduce your regular income tax by an additional 5.97% of what you got in dividends (For example $100 in dividends would reduce your regular tax bill by $5.97). I know it is a very weird idea to wrap your head around at first but this is great thing for investors with low income like yourself since you can actually keep every penny plus some extra on every dollar of dividend income.
As per usual, I’m not a tax expert or financial adviser, so do your own homework. Any additional ideas/comments from anyone else would be appreciated.