Can You Have Too Much RRSP?

Since I’ve written about how much you need to save to reach $1M in your RRSP starting in your 30’s, 40’s, and 50’s, I’ve been getting questions from readers who have significant RRSP contributions.  More specifically, can you have too much in an RRSP?

I haven’t been able to find any good articles online that talks about when to stop contributing to RRSPs.  Even at 5% forced withdrawal for an RRIF, a large RRSP can quickly force significant income for tax purposes, impacting old age security (OAS) and removing benefits of the rrsp.  At what point does it stop making sense to contribute to RRSP vs just placing the money in taxable accounts?  I know this is only an issue for high income readers, but I think you have a large following in that area.

So the answer is that…  it depends!  Specifically, it depends on your other income during retirement.

One big tax strategy in retirement is to avoid OAS clawback if at all possible. One metric on whether or not you have too much of an RRSP/RRIF is if forced withdrawals during retirement tread into OAS clawback territory (remember that RRSP/RRIF withdrawals are taxable income).

Backgrounder on Old Age Security

Old Age Security is a (Canadian) government program that pays a monthly benefit (adjusted to inflation) to seniors ages 65 and over.  OAS is paid out of the current Government tax base (unlike CPP) and is counted as taxable income.

What is the OAS clawback?  It’s basically a tax on high-income seniors in the form of reduced OAS benefits.  If you’re 65 or older in 2019, the government will claw back 15% of income over $77,580k.  OAS will be completely eliminated for incomes over $125,696.

Essentially, many financial plans will arrange their affairs to stay under the OAS clawback threshold, which is much easier if you have a spouse.  So answering if you can have too much RRSP will depend on your income sources during retirement.

Income Sources at Retirement

There are a number of sources of income during retirement that forms the baseline of income before RRSP withdrawals.  The higher your baseline income, the less you will need to depend on your own portfolio to fund your retirement lifestyle.

Related: Ultimate guide for early retirement with safe withdrawal rates

Canada Pension Plan/OAS

Government retirement benefits can make a big difference. The two main programs are CPP and OAS. If a typical Canadian who has lived and worked in Canada all their lives, they may receive around $30k per couple. As you can see, getting $30k from the government can really pay for a large portion of a comfortable retirement.

RRSP/RRIF/Defined Contribution Plan

If you have no other retirement income besides CPP/OAS, assuming you and your spouse want to maximize income but stay under the OAS clawback threshold ($77,580) – that would leave about $62,580/year to be funded by your RRSP/RRIF (each).

You can convert an RRSP to an RRIF at age 65 and qualify for pension income splitting (in addition to the pension tax credit) which is a big advantage if you have a spouse.  At age 71, you will be forced to convert your RRSP into an RRIF, which starts with a pre-determined withdrawal rate of 5.28% and increasing annually thereafter (full schedule here).

Defined Benefit Pension

These are also known as gold plated pensions where employees make a fixed contribution to the plan based on their income but get a generous retirement benefit regardless of market performance.  For example, some federal government employees get up to 60-70% of the average of their best (or final) 5 years in terms of income.

If you expect a large DBP during retirement, the tax-efficient recommendation is to build your TFSA before topping up your RRSP.  This is especially true if your spouse is also has a DBP because income splitting will have minimal impact.

Maximum RRSP to Avoid OAS Clawback

Here is a table of maximum RRSP account values to avoid OAS clawback depending on your baseline retirement income (per spouse).

• Assumptions:
  • OAS threshold, CPP, OAS, DBP plans, and RRIF withdrawal percentage increases with inflation
  • No tax deductions
  • Age 65
  • Per Spouse
  • RRSP/RRIF balance only growing with inflation @ 65 (assumes 4% forced RRIF withdrawal rate)

Summary

As you can see from the table above, a single person with a $15k baseline income from CPP/OAS could have up to a $1.5M RRSP without hitting OAS clawback territory.  This would result in a $77,500/year annual income at age 65, assuming the RRSP has been converted to an RRIF with a 4% withdrawal rate in the first year.  If you have a spouse, simply double those numbers (note that these are rough numbers).

If a retiree has a defined benefit pension, then the maximum RRSP portfolio drops off fairly quickly, which is why a TFSA is recommended for government workers over an RRSP.

Other factors to consider is that while a large RRSP can be passed over to a spouse tax-free upon death, the higher income may result in some OAS clawback for the surviving partner.  Once the surviving partner passes away, the estate will face taxation on the RRSP balance likely at the highest marginal rate.

So for estate planning purposes, there are cases where retiring a bit earlier living off the RRSP while delaying OAS/CPP has its advantages.  Here is more on how I plan to withdraw from my retirement accounts.

So let’s answer the question, can you have too much in your RRSP? Again it depends – for tax efficiency, yes, you can have too much. For the lifestyle that you envision during retirement – maybe not!