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Now is the time of year when the interest-free loan you gave to the federal and provincial governments in the previous year is repaid.

As welcome as they are, tax refunds can be more a sign of non-optimum planning than a true windfall. But the reality is that 66 per cent of returns processed so far for the 2022 tax year are getting a refund. A thought on what to do with this money if you don’t have a hole in your family finances to plug: invest it in a registered retirement savings plan.

For young parents, it’s hard to find a downside to choosing a contribution to a tax-free savings account over an RRSP. But tax expert Evelyn Jacks has a double-barrelled argument for making RRSP contributions.

As she explains it, the first benefit of an RRSP contribution is that you may put yourself in a position to benefit from higher refundable tax credits such as the Canada Child Benefit. An RRSP contribution lowers your net family income, which is the number on which the CCB is based.

The second benefit is a tax deduction that helps get you a bigger refund on your 2023 taxes. And there are several good options for that money,

You could target it for retirement saving and add it to your RRSP, you could invest in a TFSA or you could take advantage of the soon-to-be-introduced Tax-Free First Home Savings Account (FHSA). Another thought for parents is a registered education savings plan, which generates a matching 20-per-cent government grant on contributions up to $2,500 per year (The RESP grant is higher for people with low incomes).

Here’s an example of how this RRSP strategy works from Ms. Jacks, a financial educator who specializes in tax planning. She’s the founder and president of Knowledge Bureau Inc. in Winnipeg.

We start with a couple that has household income of $95,000 – one partner makes $80,600 and the other has a freelance income of $14,400. For the 2022 tax year, the higher-income spouse receives a tax refund of $2,400.

Added to an RRSP, this tax refund means paying $711.60 less in taxes for 2023. In addition, the amount of Canada Child Benefit the couple are eligible for increases by $136.80 for the year because the RRSP contribution decreases the household income. (We’ll assume here that this couple has two children under the age of six.)

The total benefit from putting the $2,400 tax refund into the RRSP is $848.40, which works out to a return of 35 per cent, Ms. Jacks said. Investment returns on the RRSP contribution would add to this gain.

CRA data show a gradual increase in the average tax refund over the past 10 years, to $1,880 in 2021 from $1,480 in 2012.

A tax refund can result from overpaying your taxes through the year, likely because your employer withheld more tax than necessary on your paycheque. That effectively means you are lending money for free to the taxman, rather than getting the benefit of it yourself throughout the year. A solution suggested by Ms. Jacks: file a T1213 form with CRA requesting a cut in tax deductions at source.

If CRA agrees, it will send you a letter of authority to show your employer. In the above example, the higher-income spouse could ask to have the equivalent of $200 less in taxes deducted each month. This adds up to the same $2,400 that is now being received as a tax refund.

Ms. Jacks said the $2,400 freed up by withholding less tax can be invested gradually through the year in an RRSP. If you automate these RRSP contributions so they happen each payday, you put yourself in a great position to build long-term retirement savings on a tax-deferred basis. And then there’s the tax benefit.

At the end of the year, there’s a total of $2,400 in RRSP investments that stack on top of the prior year’s refund amount of $2,400. And, depending on the amount of net family income, a bigger RRSP contribution can increase the size of monthly CCB payments. The family in the last example now gets $273.60 more in CCB, up from $136.80.

The extra $200 per month freed up by reducing tax withheld can also be used for an RESP, an FHSA, a TFSA or a household emergency fund. “It could be about paying down debt,” Ms. Jacks added. “If you’re paying 20 per cent interest on a credit card, that matters.”

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