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The Companion Advisor: Retirement Planning
Avoid RRSP Overcontributions

Contributed by BDO Dunwoody LLP
A Companion Advisor Article

If you contribute more than your contribution limit, you will be subject to a 1% penalty tax per month to the extent that the overcontribution amount exceeds $2,000. This penalty tax is expensive, ensuring that it is not worthwhile to make overcontributions above this limit.

You can make an extra one-time $2,000 overcontribution to your RRSP without being subject to the 1% per month penalty tax on overcontributions. This will enable you to shelter the income on the $2,000 from tax.

The $2,000 cushion is intended as a protection from inadvertent overcontributions. Therefore, if you use up the cushion, you have absolutely no margin for error left. This would usually only be a concern for members of pension plans, but could also cause problems for other individuals.

Also note that if you decide to take the $2,000 out of your RRSP, the withdrawal will be taxable without you ever having received the benefit of a tax deduction for the contribution. Although it is possible to remove inadvertent overcontributions from an RRSP without tax (an offsetting deduction is provided), this remedy is not available where the overcontribution was made intentionally.

There is a solution to this problem. You can deduct any contribution made in a prior year to the extent it was not previously deducted, provided you have unused contribution room. Therefore, the $2,000 could be deducted in a subsequent year by treating it as part of that year's contribution limit. In fact, you could even deduct it after you reach 69 (which is the year in which you must collapse your RRSP) if you still had earned income in the prior year. Of course, if the $2,000 stays in your RRSP long enough, the advantage of tax-free compounding of income will outweigh even the disadvantage of having the undeducted amount taxed on withdrawal.

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