The Registered Retirement Savings Plan, or RRSP for short, is one of the most widely used tax sheltered accounts here in Canada next to the Tax Free Savings Account (TFSA).
Canadians use the RRSP to buy stocks, annuities, fixed income and more in order to retire happy.
Although those who are currently high earners and in the upper echelon in terms of tax brackets benefit the most from the RRSP, many Canadians contribute to it.
And the prospect of saving money, especially when we're saving towards retirement like the RRSP is designed for, excites us. In fact, with a brokerage like Questrade, it can be as easy as setting up a recurring bill payment to deposit money into your RRSP.
So there is a possibility we could have gotten a little overzealous, or just simply miscalculated our RRSP room due to employer matching or pension adjustments we didn't know about, and now we are faced with the fact that we've made an RRSP over-contribution.
In this article, I'm going to explain what you can do if you've over contributed to your RRSP, the penalties you may face, and how you can avoid over contributing in the future.
Calculating your room to avoid RRSP over-contributions
Many Canadian's are unsure of what their RRSP contribution room is and as a result, over-contributions to RRSPs are actually something that is common place in Canada.
Every year you are given an allotted amount to contribute to your RRSP. This amount is either:
- 18% of your previous years tax income
- the maximum of $27,830 (for 2021)
So, lets go over a quick example.
If you made $100,000 in 2020 your RRSP contribution room for 2021 will be $18,000. But, if you made $300,000 it will not be $54,000. Instead, you've hit the max threshold of $27,830 for 2021.
Your room also accumulates, meaning as long as you've been working and have filed a tax return, you will get RRSP contribution room for that year. So keep in mind, the numbers above are only taking a single year into account.
The easiest way to figure out your RRSP contribution room to make sure you don't over contribute however, is to head to your My CRA personal account, and both your RRSP and TFSA room are listed there.
What exactly is an RRSP over contribution?
An RRSP over-contribution is when a Canadian contributes over and above their RRSP deduction limit.
As the RRSP is a registered, tax sheltered account, there are particular limitations as to what you can contribute, as we've went over above.
If this wasn't the case, we'd stuff every penny we could inside of tax sheltered accounts like the TFSA and RRSP to avoid paying income tax.
What happens when I go over my RRSP limit and over contribute?
If you over-contribute to your RRSP, you'll be charged a tax of 1% monthly on the over contribution up until you withdraw the amount you've went over, or you're allotted new RRSP room in a new calendar year.
However, there is a little bit of leeway on overcontributions to the RRSP. In fact, the CRA allows for an over contribution of $2000 without penalty.
So if you had a total of $18,000 in RRSP contribution room and contributed $20,000 don't worry, you won't be penalized.
Just understand that the $2000 you over contributed will not be allowed to be claimed as a tax deduction. So, you're really not getting ahead with this buffer. It's more so just room for error.
You can also avoid paying the penalty tax on RRSP over-contributions by simply withdrawing the excess amounts immediately, or contributing to a qualifying group plan.
But more on that later!
What do I need to do if I over contribute to an RRSP?
If you've made an RRSP over-contribution and are now looking to remedy the situation, the best thing you can do is to withdraw the money as soon as possible to avoid penalties.
If you end up over-contributing to your RRSP and do not remedy the situation immediately, you'll have to pay the penalty.
In this situation, you'll have to file a T1-OVP, which is an individual form for over contributions to an RRSP, PRPP and SPP. You can gain access to the form here.
It's also very important that you submit this form on time, which is within 90 days of the calendar year ending. This is important for a few reasons.
- If you are late in filing the over contribution forms, you are charged an immediate 5% penalty on the balance owning
- You will also be charged 1% a month on your balance owing for every month the return is late, up to a year
- On the 91st day of the year, in which your filing is now deemed late, interest will begin to compound daily on these amounts
However, there is a situation where it might be a good idea to simply leave an over-contribution alone and pay the penalty.
This would primarily be if you know you're going to have the space in your RRSP when a new calendar year arrives. For example, if you over contribute in November, but know you will have the room come January 1st.
This is a situation that is very individual specific, and you need to understand your own tax situations prior to making the decision to leave an over contribution inside of an RRSP.
Do I need to pay withholding tax when I withdraw my RRSP over contribution?
In most situations, when you withdraw your RRSPs, whether it be from an over-contribution or not, you'll have to pay a withholding tax on that withdrawal.
The amount of tax is usually dependent on the amount you're withdrawing, and in the case of an over withdrawal, you're likely to be producing offsetting tax transactions (which I'll explain in a bit) so although you might pay the withholding tax, you could get it back.
To avoid paying withholding tax altogether though, you can complete a T3012A form and get it approved by the CRA. You then bring the form to your financial institution, and no withholding tax will be charged.
However, if you've already withdrawn the excess amount or do not want to fill out the form, you will pay withholding tax.
Will I get my withholding tax back on withdrawn RRSP over-contributions?
Don't worry, you'll very likely get this back when you file your taxes. This is what I was talking about above with the "offsetting tax transactions."
Because you've contributed to an RRSP, as long as you pull the contribution out in the same year, in most cases there will be no taxes paid, as it essentially equals a net 0 contribution.
So although you've paid the 10% withholding taxes, in theory you will claim both a $X dollar contribution and a $X dollar withdrawal from your RRSPs in the same calendar year, resulting in no taxes due.
In order to do this, you'll need to fill out a T746 form, which you can view here.
Can the CRA cancel or waive my taxes on excess contributions?
In short, yes they can.
But, it requires some work from you in the form of a letter in writing directly to Canada Revenue Agency.
In the letter, make your best efforts to prove that your over-contributions were made due to a reasonable error, and you've taken the right steps as soon as you identified the over-contribution to resolve the error.
Obviously, the more details and evidence you provide along with the timeliness of your remedying of the situation, the higher likelihood that your taxes will be waived.
So, take your time and provide as much detail as possible.
How to avoid RRSP over-contributions
Avoiding RRSP over-contributions is the key to eliminating the need to read most of this article. So, how can we go about avoiding them?
The simple answer would be
"don't contribute more than you have in RRSP contribution room"
but it gets a little more complex than that, because there are some very common ways that people end up over-contributing to their RRSPs for.
Factor in employee matching
This is arguably the easiest way a Canadian can contribute too much to their RRSP. If you're lucky enough to have your employer match RRSP contributions, then you have to take this into consideration when contributing to your RRSP.
A simple example. If you're all caught up on your past contributions and all you have left is the 18% from the year prior, if your employer is matching up to 4% of your contributions and you contribute 18%, you'll end up with an over-contribution.
It's very easy for the 4% employee matching to slip your mind, especially if it isn't recorded clearly on your paystub.
Always factor in other sources of RRSP contributions to calculate your total individual contributions you can make.
Look up your total RRSP deduction limit on your My CRA account
The easiest way to avoid RRSP over-contributions, and TFSA over-contributions as well, is to find your total contribution room on your My CRA account.
If you don't have one, it takes very little time to set up an account and you'll have your total room in no time, available right on the front page as you log in.
A word of caution however, this is typically the amount that is available to you at the start of a calendar year. So, if you've made contributions in the current year, it's very important you deduct them from the amount listed.
In fact, below the contribution room it will have a date that the room is accurate on.
Make sure to take into consideration pension contributions
This is something that a lot of people contributing to their RRSPs do not realize. And that is that pension contributions are deducted from your total RRSP room.
This information will be noted on either box 52 of your T4, or box 034 of your T4A.
Also, make sure to ask your employer in what year pension and/or RRSP contributions are eligible for.
Some contributions can take 90-120 days to actually be deposited, and might have a considerable difference on your overall room and the potential to contribute too much.
Overall, solutions to RRSP over-contributions are a tricky situation
If you've viewed any of the forms I linked to in this post, you'll likely know what I mean by an RRSP over-contribution situation is fairly complex. This is exactly why I often say it's a situation best left to an accountant.
The forms can be tricky and downright difficult to read, and if you don't know what you're doing, your RRSP over-contribution situation can be made even worse by filling out the applicable forms wrong.
Resolving an over-contributions takes time, patience, and attention to detail. Often, actual taxes owed can get quite cloudy and you could even end up over or under paying what you actually owe.