RRSP withdrawals revisited by chenmeixiu


									RRSP withdrawals revisited
RRSP withdrawals revisited

Hubert Frenken

F   or a number of years, Canadians
    under 65 years of age have
cashed in about one dollar of reg-
                                           RPP locking in
                                                                                         employment income nor unemploy-
                                                                                         ment insurance benefits that year;
                                                                                         even those with employment in-
                                           Under federal-provincial regulatory
istered retirement savings plan            pension legislation an RPP member             come earned on average relatively
(RRSP) savings for every five con-         leaving the plan after a specified pe-        little. (Frenken and Standish,
tributed. From 1990 to 1994 they           riod of time (two years in most prov-         1994).
took out $16.6 billion. Between            inces) through layoff or voluntary
February 1992 and October 1996             departure has access to his or her               From 1991 to 1994, the number
they withdrew an additional $4.4           pension accruals only at retirement.          of persons and the amounts with-
billion through the Home Buyers’           In most instances the accumulated             drawn grew by 16% and 22%, re-
Plan (HBP).                                savings are transferred to a locked-          spectively (Table 1). This is rather
                                           in RRSP or similar vehicle and the            puzzling, since any who had ex-
   Whereas pension accruals in             financial institution managing these          hausted their savings in previous
nearly all employer-sponsored reg-         funds ensures that benefits are not           years could no longer withdraw. As
istered pension plans (RPPs) are           paid out until the designated retire-         well, improved economic condi-
locked in after two to five years of       ment age. 1 These amounts, though             tions should, in theory, have re-
                                           part of total RRSP assets under the
plan participation and are available       financial institutions’ administration,
                                                                                         duced the dependency on RRSP
only at retirement (see RPP locking        are not treated as RRSP contribu-             withdrawals.
in), RRSP contributions can be             tions, but as pension monies still sub-
withdrawn any time. It has been            ject to the legislation. For details see      More older persons
suggested that this practice defeats       Statistics Canada (1996a).
the prime objective of the program,                                                      These increases were attributable
namely, to encourage workers                                                             primarily to older taxfilers. The
(especially those with no access to       That year, 410,000 taxfilers under             number of persons under 35 mak-
RPPs) to save for retirement              age 65 reported some $2 billion in             ing RRSP withdrawals remained
(William M. Mercer Ltd, 1993 and          RRSP income.2 The amounts with-                virtually unchanged from 1991 to
Cohen, 1993).                             drawn since then have continued to             1994. But the number between 55
                                          rise. In 1994, taxfilers under 65              and 64 increased 18% and between
   This article examines the extent       cashed in $3.9 billion out of assets           45 and 54, 32% (Table 2). Many
of RRSP withdrawals in recent             estimated at well over $200 billion.           may well have been retired, either
years, including those made under                                                        voluntarily or involuntarily, and
the HBP. It identifies some charac-          Cashing in of RRSP savings grew             drawing from retirement savings
teristics of the taxfilers who dipped     dramatically in 1991. This situation           before becoming eligible for other
into these funds before age 65 and        was attributed largely to the reces-           types of pension income, such as
suggests reasons for doing so. It         sion and its accompanying job                  Canada and Quebec Pension Plan
also looks at how withdrawals af-         losses. Nearly 20% of those who                benefits (age 60), Old Age Security
fect participants’ immediate tax          made withdrawals had neither                   payments (age 65) or RPP benefits
obligations and their future retire-
ment savings.
                                          Table 1
Considerable amounts and                  RRSP withdrawals * by taxfilers under 65
                                                                              1990       1991        1992       1993       1994
Withdrawals from RRSP savings
have always been possible, but no
data were available on the extent of      Number of taxfilers (’000)           496         604        635        692        700
this practice until 1988, when the
T1 tax return required such               Amount ($ millions)                2,498       3,182      3,403      3,671      3,881
amounts to be reported separately.        Average ($)                        5,040       5,270      5,360      5,310      5,550

Hubert Frenken is with the Labour and     Sources: Small Area and Administrative Data Division and RRSP room file
Household Surveys Analysis Division. He   * Excludes withdrawals under the Home Buyers’ Plan.
can be reached at (613) 951-7569.

16 / Winter 1996 PERSPECTIVES                                                         Statistics Canada - Catalogue no. 75-001-XPE
                                                                                                              RRSP withdrawals revisited

(age varies according to the condi-
tions of the plan).                             Table 2
   In fact, more than one-quarter of            RRSP withdrawals * by age of taxfiler
persons cashing in RRSPs in 1994                                           1991                                      1994
were between 55 and 64 and they
withdrew over one-third of the to-                           Number               Amount                Number              Amount
tal withdrawals. However, a major-                         ’000     %        $ millions     %          ’000      %     $ millions     %
ity (52%) were under 45 and they
reported nearly 37% of all with-                Total       604    100            3,182    100          700    100          3,881    100
drawals. These people were not                  Under 35    166     27             508      16          168     24           461      12
likely ready for retirement and                 35-44       168     28             842      26          197     28           956      25
some may have been forced to                    45-54       116     19             759      24          153     22          1,092     28
draw on their RRSP savings for
                                                55-64       154     26            1,074     34          182     26          1,373     35
economic reasons. 3 Of this group,
30% had total incomes (including                Sources: Small Area and Administrative Data Division and RRSP room file
the amount withdrawn) under                     * Excludes withdrawals under the Home Buyers’ Plan.
$20,000. 4
   Despite this evidence, it appears
that many of those who made RRSP               amount of tax generated by the                    through the Home Buyers’ Plan.
withdrawals had high incomes in                withdrawal. They receive a refund                 This program, in effect since Feb-
1994. While just one in five                   after their return is assessed.                   ruary 1992, has permitted maxi-
taxfilers under 65 had a total in-                                                               mum withdrawals of $20,000 from
                                                  Currently, the tax is withheld at
come greater than $40,000, nearly                                                                RRSP savings to finance the pur-
                                               the following rates:
one-third in this age group who                                                                  chase or construction of a home.
made withdrawals reported this                                                                   But amounts withdrawn must be
                                                Amount                   Proportion              fully repaid to the home buyer’s
much.                                          withdrawn                 withheld 6              RRSP in instalments within 15
   There have always been fewer                                                                  years (see HBP conditions).
women than men contributing to                                     Quebec provinces/
RRSPs and their average contribu-                                                                   From February 1992 to October
tions have been more modest                                                                      1996, Revenue Canada registered
(Frenken, 1995). In 1994, 45% of                                            %                    HBP applications for 466,000 indi-
all taxfilers under 65 reporting                                                                 viduals who withdrew nearly $4.4
                                               Less than $5,001       21           10
RRSP income were women,                        $5,001 to $15,000      30           20
                                                                                                 billion (Table 3). Although the first
scarcely changed from the 44%                  Over $15,000           35           30
                                                                                                 year was the busiest, participation
recorded in 1991. Similarly,                                                                     in the program has continued to be
women’s share of the receipts was                                                                substantial.
41%, slightly higher than the 39%                 Taxfilers making withdrawals                      At present there are no data on
noted three years earlier.                     may significantly reduce their fu-                the age, income or sex distribution
                                               ture retirement income, since all                 of the participants. Nor is it known
Effects on savings and taxes                   tax-exempt investment income that                 what effect the plan has had on
                                               these savings would have realized                 home construction. No doubt, many
People who dip into their RRSP                 is lost. For example, a 65 year-old
savings not only reduce their future                                                             participants would otherwise have
                                               taxfiler who removed $5,000 at age                been unable to purchase a home.
income, but also forfeit part of their         35 will have forfeited more than
savings immediately. Amounts                                                                     Others may have had sufficient
                                               $50,000 in RRSP savings, assuming                 resources but decided to increase
withdrawn are subject to a with-               8% interest compounded annually.
holding of income tax and may, de-                                                               their down payment and reduce
pending on the taxfiler’s marginal                                                               their outstanding mortgage.
                                               Home Buyers’ Plan
rate, result in further tax when the                                                                Much debate has centred on the
annual return is filed.5 Persons with          Some taxfilers do have one means                  advantages and disadvantages of
low income may actually have a                 of using their RRSP savings with-                 the program (Cohen, 1992 and
larger portion withheld than the               out incurring the tax charges,                    Kinross, 1996). Critics are

Statistics Canada - Catalogue no. 75-001-XPE                                                           Winter 1996 PERSPECTIVES / 17
RRSP withdrawals revisited

                                                                                             drawals may result in sizeable
 HBP conditions                                                                              immediate tax obligations. The rea-
 The Home Buyers’ Plan (HBP), in-             They are not reported as RRSP with-            sons for dipping into these savings
 tended to expire in March 1993, was          drawals on the tax return; however,            are varied, but most taxfilers make
 initially extended to March 1994 and         missed payments are treated as cash            withdrawals out of financial need.
 subsequently made permanent. In              withdrawals and taxed accordingly.             Assuming no changes in legisla-
 1995, it was restricted to participants      For example, someone who withdrew              tion, and continued uncertainty in
 who had not owned a home in the pre-         $15,000 in 1992 is required each year          the labour market, this practice will
 vious five years. The first repayments       to repay $1,000 to an RRSP from                likely grow (Townson, 1995).
 were due in 1995 for amounts with-           1995 to 2009. Failure to make a pay-
 drawn in 1992, 1993 and the first two        ment means that $1,000 of RRSP in-
 months of 1994.                              come will be added to the filer’s tax
                                              return. A defaulted payment cannot
                                                                                               Data sources and acknowl-
    Amounts withdrawn under this              subsequently be caught up; that is,              edgements
 plan are in a sense still part of the per-   one may not deposit $2,000 in the
 son’s RRSP assets, but temporarily                                                            Most data used in this article and in
                                              subsequent year and claim all of this            “RRSP rollovers” are from the RRSP
 redirected from traditional invest-          as an HBP repayment.
 ments to a stake in the taxfiler’s home.                                                      room file of the Pensions Section,
                                                                                               Labour Division. For a description
                                                                                               of this file see Statistics Canada
                                                                                               (1996a). Data for 1995, which will
concerned that the advantage of               Buyers’ Plan (HBP). The first of the             include new figures on the HBP and
being able to purchase a home is              associated repayment instalments                 on excess contributions, will soon be
offset by the disadvantage of los-            were due in 1995. Tax data for that              available. For further information
ing compound, tax-free interest               year will permit a more in-depth                 contact the Pensions Section at (613)
                                                                                               951-4033. Information on the Home
earned by the RRSP savings,                   analysis of the characteristics of
                                                                                               Buyers’ Plan is from the Individual
income that cannot be recovered               the participants in this plan, as well           Returns and Payments Processing
despite the repayment schedule. 7             as the extent of their repayments                Directorate of Revenue Canada. The
                                              and the degree of success in meet-               author wishes to thank Carl Sarazin
Summary and conclusion                        ing this obligation (see Data                    and Karen Dorman of the Pensions
                                              sources and acknowledgements).                   Section and Daniel Desjardins of
RRSP withdrawals by Canadians                                                                  Revenue Canada for their assistance.
under age 65, which increased dra-              RRSP withdrawals, even those
matically in 1991, continued to               under the HPB, reduce retirement
grow in the next three years despite          savings. Moreover, regular with-                                                     o
improved economic conditions.
The greatest growth, both in par-
ticipation and amounts withdrawn,              Table 3
occurred among individuals aged                Participation in Home Buyers’ Plan *
45 to 54. However, in 1994, one-
quarter of those cashing in RRSPs                                                    Number of participants     Amounts withdrawn
before the historical retirement age                                                          ’000                   $ millions
of 65 were between 55 and 64, and
they accounted for 35% of the total            All periods                                     466                       4,372
receipts. They may have needed
                                               February 26, 1992 to March 1, 1993              158                       1,536
these savings to tide them over un-
til becoming eligible for pension              March 2, 1993 to March 1, 1994                  102                       1,008
benefits. More than half were un-              March 2, 1994 to December 31, 1994               56                         453
der 45 and they withdrew over a                January 1, 1995 to December 31, 1995             78                         713
third of the total. Many of these              January 1, 1996 to October 23, 1996              71                         663
people had low incomes.
                                               Source: Revenue Canada, Individual Returns and Payments Processing Directorate
   A large number of taxfilers used            * Number and amounts recorded as of October 23, 1996. Some additional applications
some if not all of their RRSP sav-                may have been approved but not yet added to the database.
ings as a down payment to pur-
chase a home under the Home

18 / Winter 1996 PERSPECTIVES                                                             Statistics Canada - Catalogue no. 75-001-XPE
                                                                                                                    RRSP withdrawals revisited

                                                   4 Because the amounts withdrawn are in-             n References
                                                   cluded in total income, they may distort the
n Notes                                            analysis. Also, total incomes increased dra-        Cohen, B. “Early withdrawals from RRSP
                                                   matically for many taxfilers in 1994, their last    plans sounds alarm bells.” The Financial
1 Generally, only benefits accrued after the                                                           Post. July 29, 1993, p. 13.
                                                   opportunity to claim deductions on capital
date specified in the legislation (January 1,
                                                   gains accrued on rental and other property. In
1987 in Ontario, for example) are locked in.                                                           ---. “Avoiding home buyer’s tax shock: A
                                                   order to avoid paying tax on these gains in
Benefits accumulated earlier are usually                                                               look at the pros and cons.” The Financial
                                                   the future, taxfilers were required to report the
received in cash or transferred tax free to a                                                          Post. December 19, 1992, p. 14.
                                                   taxable portion on their 1994 tax returns. As
non-locked-in RRSP. In time, virtually all
                                                   a result, over 1.4 million taxfilers reported
RPP accruals will be locked in.                                                                        Frenken, H. “RRSP rollovers.” Perspectives
                                                   $32.5 billion in deductible capital gains that
                                                   year.                                               on Labour and Income (Statistics Canada,
2 The amounts reported as RRSP income                                                                  Catalogue no. 75-001-XPE) 8, no.4 (Winter
on the tax return include both RRSP annuity                                                            1996): 20-23.
                                                   5 Also, financial institutions impose a sig-
payments and cash withdrawals. However, for
                                                   nificant penalty when certain investments are
persons under 65 annuity income is negligi-                                                            ---. “RRSPs – unused opportunities.” Per-
                                                   liquidated before their designated date of
ble. For example, in 1991, 1992 and 1993                                                               spectives on Labour and Income (Statistics
fewer than 3% of taxfilers under 65 with                                                               Canada, Catalogue no. 75-001-XPE) 7, no. 4
RRSP income received all or part of that                                                               (Winter 1995): 20-25.
                                                   6 The amount withdrawn would be re-
income from annuities and just 2% of the
                                                   duced by this percentage. For example, an
total benefits were paid this way.                                                                     Frenken, H. and L. Standish. “RRSP with-
                                                   Ontario resident withdrawing $4,000 in 1996
                                                   would receive only $3,600. The remaining            drawals.” Perspectives on Labour and
     Included in the withdrawals are excess                                                            Income (Statistics Canada, Catalogue no. 75-
                                                   $400 would be sent by the administrator of
contributions for which a comparable deduc-                                                            001-XPE) 6, no. 1 (Spring 1994): 37-40.
                                                   the RRSP to Revenue Canada. The Quebec
tion was claimed. These contributions were
                                                   rate is different, since, unlike other provinces,
made in previous years and not claimed as                                                              Kinross, L. “Homebuyers’ plan can eat away
                                                   whose taxes are collected by Revenue Canada,
deductions at that time. They may now be                                                               at retirement income.” The Financial Post.
                                                   it collects its own income tax. The Quebec
withdrawn and reported on the tax return as                                                            January 24, 1996, p. 22.
                                                   rate includes federal and Quebec tax, as
both a withdrawal and a deduction. Under
                                                   follows: 5% and 16% for less than $5,001;
certain circumstances they may have resulted                                                           Statistics Canada. Canada’s Retirement
                                                   10% and 20% for $5,001 to $15,000; and
in a penalty tax.                                                                                      Income Programs: A Statistical Overview.
                                                   15% and 20% for over $15,000.
                                                                                                       Catalogue no. 74-507-XPB. Ottawa, 1996a.
3 Statistics Canada’s Survey of Labour and
                                                   7 Repayments also add to future “shelter
Income Dynamics has revealed that Canada’s                                                             ---. “Transition in the labour force.” Labour
                                                   costs” of mortgage, property tax and other
labour force is in constant transition, result-                                                        and Income Dynamics 5, no. 2. Catalogue no.
                                                   expenses. Payments may also hamper the
ing in frequent jobless periods for many                                                               75-002-XPB (June 1996b): 1-5.
                                                   taxfiler from continuing to contribute to
workers. In 1993, 4.3 million persons lost a
                                                   RRSPs. As well, the volatility of real estate
job, found a job or moved in or out of the                                                             Townson, M. Our Aging Society: Preserving
                                                   values may serve to make a home purchase a
labour force (Statistics Canada, 1996b).                                                               Retirement Incomes into the 21st Century.
                                                   less certain investment than before.
                                                                                                       Ottawa: Canadian Centre for Policy Alterna-
     Other uses of RRSP savings may be to                                                              tives, 1995.
support oneself during a period of voluntary
absence from work while looking after young                                                            William M. Mercer Ltd. “Are RRSPs being
children or while attending school, to pay for                                                         misused?” The Mercer Bulletin 93, no. 6
children’s education, to start a business, or to                                                       (June 1993).

Statistics Canada - Catalogue no. 75-001-XPE                                                                  Winter 1996 PERSPECTIVES / 19

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