Over-contributing to RRSP vs TFSA. Which is worse?

Q. Is it worse to overcontribute to a TFSA or an RRSP? Why? And what are the penalties?

– Davina Thompson

When I first read your question, Davina, my first thought was that there really isn’t a difference. You don’t want to over contribute to a TFSA or an RRSP.

However, there are times when it’s beneficial to overcontribute to an RRSP. So, let’s do a quick review of the TFSA and RRSP contribution rules, penalties, and what to do if you do overcontribute.  Then I’ll explain why an RRSP overcontribution can sometimes be a good idea.

The contribution rules

The maximum TFSA contribution is calculated as:

The current year’s contribution limit ($5,500 in 2018) + Unused contributions + Past withdrawals.  The maximum lifetime contribution in 2018 is $57,500.

The maximum RRSP contribution is calculated as:

18% of your last year’s income up to a maximum of $26,230 (2018) + Unused contributions – Pension adjustments + Pension reversals.

Notice that when you make an RRSP withdrawal you’re not able to contribute that money back into your RRSP as you can with a TFSA.

You can also overcontribute to your RRSP deduction limit by $2,000 without being penalized.

When it comes to figuring out your contribution limits, you’re always best to go to this CCRA site where the government tracks everything for you.

The Penalties

For both the TFSA and RRSP the penalty is 1% per month on the highest excess amount for the month. If you go over by $1,000 the penalty is $10/month until you fix it.  So if you contribute twice a month, $1,000 each time, the penalty that month will be $20 based on $2,000.

To stop the penalties you’ll either withdraw the overcontributed amount or, if it is near the end of the year, leave the money in the TFSA or RRSP and let the new contribution room absorb the overcontributed amount.

Here are the forms you will need to complete when you make an overcontribution:

• TFSA
• RRSP

When to Overcontribute

Here are two reasons why you may want to overcontribute to an RRSP:

1. If you’ve maxed out your TFSA and RRSP, contribute the extra $2,000 to your RRSP. You won’t be penalized, the $2,000 will grow tax-sheltered, and it will help you bring your taxable income down in the year of the contribution or any other future year.
2. If you’re 71 and you have earned income in that year, make an overcontribution in December for 18% of what you expect to earn plus the $2,000 excess amount. For example, if at age 71 you earn $50,000, then your next year’s contribution room will be $50,000 x 18% = $9,000.  The problem is, even though you have the contribution room, you’re not able to make a contribution to your RRSP once you’re 72.  That’s why you have to make the contribution when you are 71 and pay the 1% penalty.

In December you’ll make a $9,000 overcontribution over and above the $2,000 excess amount, pay a 1% penalty of $90, then in January you’ll have the new contribution room and you won’t be penalized. You can claim the $9,000 deduction ($11,000 if you haven’t used the $2,000 excess amount) from your income in the year you are 72, or spread it over future years, depending on your taxable income for the given year.

Davina, even with these two examples of why to overcontribute, in most situations you don’t want to overcontribute to either the TFSA or an RRSP, and the penalty is the same for both.

Allan Norman, M.Sc., CFP, CIM, Atlantis Financial/IPC Investment Corp.

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