Surefire RRSP Strategy? Save First, Then Spend Like A (Sensible) Drunken Sailor

February 29, 2016: Our last chance to reduce our 2015 tax bill. Put another way, some of your money is currently earmarked for Ottawa, and we have this one last opportunity to divert its flight back to your balance sheet. Ahh, RRSP Season. Where New Year’s resolutions and optimism collide with the pesky fact that you haven’t saved 18% of your income from last year, and if you don’t inject a lump sum into your savings, your tax bill will be bigger than that of your friends’. Oh, and there isn’t $24,930 sitting in a jar on top of your fridge to deal with it. Kind of a buzz kill for some, but fear not! There are things we can do.

First, however: A quiz. Select the best answer for the question below.

What is the best way to deal with your RRSP contributions for 2015?

a) Bail on saving anything at all. Instead, pay down debt and vow to save for retirement when your Vancouver mortgage is finally gone at age 64.

b) Max out every RRSP, TFSA and RESP you have, taking on more debt in the process and trusting it will all work out. Sort of like a wacky business proposal where the math sucks but somehow the proponent still insists it all works because, “You make it up on volume.”

c) Give yourself a hall pass on RRSP contributions for 2015 in exchange for initiating or increasing an automated monthly savings program within 48 hours of acceptance of said hall pass. Sort of like committing to eating sensibly over the next year rather than putting all of your health efforts and dreams into a single cleanse today, where you eat nothing but blue-green algae from Oregon for a week and hope it changes your life. In this scenario, the 2017 RRSP season can be met with positive momentum and progress rather than remorse and despair. In other words: less pain + more money.

Which option sounds most reasonable and strategic to you?

Over the years, I have observed that people with defined benefit (DB) pensions, such as civil servants and police, typically have more financial security at retirement than people who have earned considerably more income but didn’t have a DB pension. While DB pensions are rich deals, a key variable to these pensioners’ security is they have been obliged to contribute a portion of every paycheck they’ve ever earned to the pot, irrespective of their circumstances or intentions at the time. Contrast that with the entrepreneur or professional who didn’t start saving in earnest until their 40s, and whose savings efforts have bobbed and weaved with the economy, their business cycle and the nuances of their career. Once saving begins you have impressive sums being deposited, but the heavy lifting typically provided by the passage of time is largely absent and your balance ultimately suffers.

The takeaway: saving a little over a long period of time works way better than sprinting to the finish, when injuries and setbacks are harder to weather, and the magic of compounding hasn’t been unleashed. An excellent strategy is to make believe you are in a union where automated saving is not an optional activity. The win here is to initiate the action and start with a nominal amount. No need to be a martyr for a high-dollar commitment at this juncture—having to bail on the plan six months from now because you can’t keep up the deposits defeats the purpose.

Hopefully, after a few months, your financial advisor will speak candidly if they feel you are undershooting/delusional with your savings goals relative to your income. The thing about automated savings plans is that while saying bye-bye to the cash may sting the first month or two, once underway people typically experience peace of mind with the habit and naturally work around the redirection of cash flow. Interestingly, income doesn’t seem to be a major influence here. I’ve seen time and again that there are households earning $150,000 with solid savings habits and other households where earnings are four times as much but savings habits are awful. Human nature being what it is, you will spend what you make—simply earning more helps, but isn’t necessarily the fix here.

Action is the key to a successful savings strategy and trumps analysis that grinds you to a halt. If you aren’t sure how to go about developing a savings plan, ask someone who knows. There is no universal answer regarding the perfect allocation of your dollar amongst non-deductible debt, RRSPs, TFSAs and RESPs. Individual circumstances are filled with unique variables that dictate the best course of action. The good news is financial advisors thrive on the jigsaw puzzle of tax rates, career plans, age differences between spouses, family dynamics and a multitude of other factors which comprise your financial life and its corresponding decisions. So, ask a financial advisor. Then decide whether you want to contribute to your 2015 RRSPs.

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