Quote:
Originally Posted by Slava
This part I bolded is what people hope is going to happen, but from what I see it doesn't often for a couple primary reasons. Firstly, people tend to live fairly active retirements for the first decade or so meaning that their income required is basically the same as their working income, or within say 25%. That means that their marginal tax rate isn't really dropping as much as they might have thought.
Another reason is that depending on when people began contributing the tax rates were lower, or they were in a lower bracket at that point, but are simply bearing the weight of increased taxes over the decades.
I would question whether people in tenuous situations economically should be slamming every dollar into their RRSP as well. That seems like terrible advice quite frankly; they would be better off to invest in the TFSA and have the liquid cash available in the event that they need it. Sure they will be delaying that tax return until next year, (when they could contribute if they haven't needed the emergency funds), but they would still have the same amount of interest/gains and have access to the funds in that worst case scenario. I mean we're dealing with a hypothetical, but I wouldn't advise people to put everything into an RRSP if they felt they needed an emergency fund.
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You had mentioned that retirees live active lifestyles and their required income is the same. Here’s an interesting study by the Fraser Institute. The study mentions that people do not need to replace all of their work#ing income after retirement and your replacement percentage (% of working income you need when you retire) depends on a lot of factors and varies with each person’s own circumstances.
http://www.fraserinstitute.org/uploa...eb%20final.pdf
Also, you mentioned if total income is within 75% the marginal tax rate isn’t really dropping. Using current year tax numbers if a retiree had a replacement percentage of 80% (they lived off 80% of their working income after they retired) @ $100k they would pay 26% less in taxes and over 10 years the tax savings would total almost $70k without even taking into account pension income splitting (below).
While it would be nice to be in a higher marginal rate upon retirement (because it means a higher income) I have never heard of anyone who has received more income upon retirement than during their working years. Money Sense recommends using 50-60% of your annual income while working (for couples).
http://www.moneysense.ca/retire/magi...need-to-retire
Timing of the income is important to consider as you mentioned. Someone who is in their peak earning years can save significantly by contributing to an RRSP as they would lower their marginal tax rate. This is assuming their marginal rate is lower later on in life and this wouldn’t apply to anyone who is starting out and in a lower tax bracket like students, new grads etc.
Along with the timing of the income over the span of a working career there is also the timing of the income each year while working compared to when retired. If someone is relying on RRSP withdrawals for income they are able to better time their income to minimize their tax exposure. Simply put – they can take more or less out in certain years depending on what their income has been that year. On the other hand most working people earn their income evenly throughout the year and have little/no wiggle room to save on taxes as they need the steady income due to higher expenses.
Another factor to consider is not only the timing of income but the types of income. Pension income can be split by up to 50% after age 65, while employment income cannot. The exception is of course the recent income splitting measure announced by the feds a couple months ago but the splitting is capped at $2k maximum. On the other hand eligible pension income can be split by up to 50% and the savings can be huge for some. An RRSP isn’t considered eligible but you could consider converting to a RRIF to make it eligible for income splitting.
It seems like tax rates have gone up over the years but here is an interesting article looking at historical taxes. The top personal tax rate in 1972 was almost 70% but in 2011 was 39-48% (depending on what province you live in).
http://www.camagazine.com/archives/p...zine49727.aspx
While you’re correct that it doesn’t make sense for some to max out their RRSP, I wouldn’t count on a higher tax rate upon retirement due to the income splitting options available, the likelihood of marginal tax rates increasing significantly over time, and the fact that almost everyone is able to live comfortably upon retirement with a percentage of their working income due to lower expenses, more time, etc.