If you will not have a low income when retired and if you will not have other pension income, you should have at least $40,000 in RRSPs when you reach age 71. This ensures that the first $2,000 of payoutsmakes use of the $2,000 Federal Pension Income Amount non-refundable tax credit.
When you are 71, you must convert your Registered Retirement Savings Plans (RRSP) to either a RRIF (Registered Retirement Income Fund) or an annuity. The RRIF has mandatory payouts that are fully subject to income taxes as income. However, you can take advantage of the Federal Pension Income Amount non-refundable tax credit that is $2,000 (line 314 of Schedule 1) and the equivalent provincial tax credit that is less than the federal value.
Will You Have Enough Income?
To take advantage of this tax credit, your income must exceed the Basic personal amount (line 300 of Schedule 1) plus the Age amount (line 301). For 2014 this is a maximum of 11,138 + 6,916 = $18,054. At this income, you actual pay no federal tax. The age amount will decrease as your income increases. There are many other non-refundable tax credits that you may qualify for and many are given in Impact of Tax Credits on Average Tax Rate. You must have more income than all of your credits to make use of the $2,000 Pension Income Amount.
If you believe you will have more income than the above, you make use of the credit.
Will You Have Other Pension Income?
You may also have “Other pensions and superannuation” (line 115 of the T1 form). These will normally be a company pension or a locked in retirement funds if you have left a company with a pension plan. If these will provide an income of more than $2,000, then you will already make use of the credit and having any more in RRSPs will not be of any use. Make a decision on how much you should save in RRSPs using other criteria.
How Much RRSP is Required?
If you meet the above criteria of having enough income and no other pension income, then you will be able to make use of the $2,000 Pension Income Amount credit.
The RRIF payout depends your age, but as a rough estimate you should have just short of $40,000 in a RRSP when you convert it to a RRIF. This is because the minimum payout using the new values passed with the 2015 budget is 5.28% at age 71. That is, 5.28% times $40,000 is $2,112. (The old payout was 7.38% which meant that you needed only $27,000 to make use of the tax credit.) Remember that you can always take more out than the minimum payout.
How Much RRSP Will You Have?
Determining if you will reach the $40,000 lower limit of your RRSP when you reach 71 depends on only three variables: the amount you have now, the interest rate you expect to earn and when you will put additional savings into the RRSP over the years.
I developed a spreadsheet that helps you do this and it can be found in the Calculating TFSA and RRSP Totals at Retirement post. Please read it, download the spreadsheet and try out a few scenarios.
For example, if you are 40 years old and have only $2,000 in an RRSP, you can reach $40,000 if you save only $840 per year at 2.5% interest until you are 65. Or, if you are 30 years old and have no RRSPs now, you can also reach $40,000 if you save $600 per year at 2.5% until you are age 65. At higher interest rates, you can save even less or not every year to reach the same final amount.
How Many Years Will There Be $2,000?
Using the spreadsheet included with the Setting TFSA and RRIF Withdrawals, you can determine how long you can withdraw $2,000 each year. Download the spreadsheet, set inflation to 0%, enter $40,000 into the RRIF capital, use a 2.5% interest rate and set the minimum withdrawal to $2,000. The result is that you will receive the $2,000 each year until you are 96 year old.
You can use the spreadsheet for any values of RRIF and TFSA to determine how much you can withdraw each year for any interest rate you want to see when the capital is gone.
Hopefully, this analysis has shown you that it is never too late to make a difference to your retirement. Even a small amount of savings compounds to yield the required $40,000 to make the first $2,000 of withdrawal federal tax-free.