When deciding on a retirement plan, the debate typically settles around LIRA vs. RRSP, the two most popular savings options in Canada. However, if you’re new to full-time work or retirement planning, you might not know about either option.
Despite their equal popularity, there are several stark differences between these two retirement plans, and we’ll highlight all of them in this guide.
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What Is a LIRA?
Before comparing LIRA vs. RRSP, it’s essential first to understand each retirement account, starting with LIRA.
A Locked-In Retirement Account (LIRA) is a specialized savings account you can open after leaving your current employer’s pension plan.
A LIRA holds your pension money and doesn’t let you withdraw from it until you’ve officially retired. Additionally, each LIRA has a maximum on how much you can take out at a time. Fortunately, money in a LIRA is tax-free until you begin making withdrawals.
You cannot make additional deposits into a LIRA; the only money that enters the account is what you receive from your company pension plan. While the contribution and withdrawal restrictions make LIRAs more limited than the pension funds we’ll examine below, some people prefer the hassle-free, set-and-forget convenience that comes with a LIRA.
However, because you cannot add outside funds into a LIRA, they fit best with retirees who don’t need extra financial assistance outside their pension plan.
When You Can Use LIRA Funds Pre-Retirement?
LIRAs are locked-in retirement savings channels, meaning you can’t access your money until you officially retire. However, there are special circumstances where you can “unlock” your retirement fund and use the money prematurely, but only for specific items and services.
- Medical Expenses: If you have a severe medical condition altering your life, you can break open your LIRA early to cover those costs. Additionally, if a terminal illness has affected your life expectancy, you can use your LIRA savings before your retirement date.
- Rent or Mortgage Costs: You can unlock your LIRA if you cannot pay your rent or mortgage expenses. However, you can only use your LIRA savings in these instances if you’re facing impending eviction.
What Is a RRSP?
A Registered Retirement Savings Plan (RRSP) has more flexibility than a LIRA and comes with some of the same benefits.
Like a LIRA, you won’t pay taxes on your RRSP investments until you officially retire. Additionally, because the Canadian government registers RRSPs, they offer even more tax benefits that LIRAs cannot provide.
Another similarity between a LIRA and RRSP is that they both have contribution limits. However, while LIRAs limit contributions to only what’s in your pension plan, RRSPs permit outside additions up to 18% of your total income. RRSPs also have an overall cap of $29,210.
RRSPs are also more flexible than LIRAs beyond just the contribution options. For example, while you can only use the funds in your LIRA for retirement, you can use your RRSP to purchase property or pay for a relative’s education.
You can also take money out of your RRSP prior to retirement, unlike a LIRA, which locks your funds until you’re out of the workforce. However, you must pay a withholding tax for any withdrawals before retirement ranging from 10% to 30%.
Differences Between LIRA and RRSP
Now that you know the basics of the two most popular Canadian retirement plans, we can examine the factors setting LIRA vs. RRSP apart, starting with their three most critical differences.
- Intention: Both RRSP and LIRA are accounts that help you live comfortably through retirement. However, while RRSPs permit flexibility in what you spend your savings on, LIRAs are solely for your essential retirement services. For example, the RRSP lets you apply funds to federal programs like the Home Buyers’ Plan and the Lifelong Learning Plan, but those services are inaccessible with LIRA funds.
- Longevity: RRSP and LIRAs have expiration dates, but LIRAs offer slightly more longevity. You can keep your existing RRSP until you’re 71, but you must convert it to a Registered Retirement Income Fund (RRIF) after. On the other hand, you can keep your LIRA account until you’re 72, and you’ll have multiple conversion options, which we’ll explore later.
- Geographical Differences: The federal government regulates RRSPs by the income tax act, so the specific rules are the same regardless of where the beneficiary lives. On the other hand, LIRAs have provisional regulations, so their terms change within each province.
Benefits of a LIRA
Though LIRAs might not appear to have many surface-level benefits when comparing LIRA vs. RRSP, they provide stronger financial control and stability than any retirement package.
Full Pension Control
The only funds that go into a LIRA come from your employer’s pension plan, which you typically have little control over. However, LIRA funds transfer to your ownership after you retire, giving you complete control over your pension.
Easy to Transfer as Inheritance
LIRA funds automatically transfer to your spouse or partner through an RRSP if you pass away before them. The transfers are also tax-free, so your beneficiary will receive as much financial support as possible.
You Can Change to a LIF or LRIF
Once you turn 72, you have to convert your LIRA into a separate account. However, unlike an RRSP, you have two conversion options, and both offer more flexibility than a standard LIRA.
A Life Income Fund (LIF) is the most common LIRA conversion and works similarly to a regular RRSP. If you have a LIF, you can add funds to your savings after retirement. Your other option is to convert to a Locked-in Restricted Life Income Fund, which is like a locked-in RRSP with limitations on how much you can withdraw per year.
Benefits of a RRSP
When comparing LIRA vs. RRSP, you’ll find that both plans have advantages and disadvantages. However, RRSPs might be more suitable if you prefer financial flexibility and tax benefits over stability and minimal fees.
Tax Benefits
You can deduct every contribution you make to your RRSP from your taxable income. For example, if you put $10,000 from your salary into an RRSP, the federal government won’t charge taxes on that portion of your income.
Additionally, those tax deductions allow you to save money on income taxes since Canada charges higher rates the higher your salary is. Since returns from RRSPs don’t have income tax requirements, you’ll save more money long-term when you enroll in an RRSP.
Asset Protection
RRSPs protect every cent of your retirement fund from creditors, thanks to the Bankruptcy and Insolvency Act. That means that even if you have to declare bankruptcy or are in debt from another federal source, collectors cannot take your RRSP funds to resolve that debt.
Easy to Live on After Retirement
Many new retirees struggle to live comfortably on their fixed income after leaving their jobs. RRSPs are so popular because they make that difficulty easier to manage by allowing additional contributions.
You can add up to $29,210 to your RRSP yearly, and those extra savings will help you navigate your tighter budget when you lose most of your income post-retirement. Additionally, because you can use your RRSP funds for housing and education, you’ll have a safety net for the most common potential expenses that arise in retired life.
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