More canadians have been saying they’re worried about not having enough to live on after they finish their working lives, and now a new survey shows one in four have taken money out of their RRSPs before retirement.

Some withdrawals were made under the lifelong learning plan to fund post-secondary education or the homebuyers’ plan for the purchase of a home. The worrying trend, however, is that one in five people who withdrew RRSP funds do not plan to repay the money, in spite of the penalties involved.

A Bank of Nova Scotia poll, designed to provide insight into Canadians’ attitudes and behaviour toward RRSP savings and long-term investments, found the primary purposes for withdrawing RRSP funds were to buy a first home, cover day-to-day living expenses or pay down debt (see table on p. 6).

“Meeting day-to-day commitments should not be at the expense of future gains,” says Howard Kabot, Scotiabank’s national director, financial planning. “Canadians need to find a balance between meeting everyday financial needs and long-term planning.”

Kabot says there are other options available for people who are short of cash, such as lines of credit, loans or credit cards. “Taking money out of an RRSP should always be a last resort, as the funds eventually will be taxed at the investor’s highest marginal rate.”

Yet Kabot says he wasn’t surprised by the survey results. “What I find interesting is the huge amount of unused RRSP contribution room being carried forward,” he says. “These days, people have a lot going on in their lives. Putting money away for retirement is not at the top of the list.” Especially for those who are in their middle years and have growing families.

Advisors should try to persuade clients not to cash in RRSP funds before retirement. Advisors may want to help those clients assess how taking out the money would affect their retirement plans, Kabot says.

Widely available retirement income calculators or software, he notes, make it possible to work through with clients how the early withdrawal of cash will affect the amount that will be available when the clients eventually retire. Depending on the amount in the RRSP and the age of the clients, early withdrawal of part of the funds may not have a significant impact on their retirement plans.

Kabot adds another wrinkle to the debate over early withdrawals, noting that capital gains made within an RRSP do not benefit from the preferential tax treatment given to such gains made through non-registered investments. With capital gains taxes coming down and the possibility of further changes in the tax treatment of such gains being introduced by the new federal government, it may become even more desirable to look for capital gains in non-registered investments rather than in an RRSP, says Kabot.

“We’re now starting to see discussion about whether an investor can have too much money in an RRSP,” he says.

And that’s a dangerous development. This concept is really aimed at those who have been maxing out their RRSPs for years; people now aged 50 to 55, with RRSPs of around $600,000-$700,000, who are starting to realize generating retirement income from their RRSP fund may make them subject to the OAS clawback, he says. This may prevent them from continuing to contribute to their RRSP even if the income from their RRSP funds may more than make up for any loss of income from the clawback.

Like many advisors, Kabot emphasizes an RRSP is best used for retirement, but it seems more and more people are using RRSPs as an income-smoothing mechanism, such as taking money out when other income is low. That’s not necessarily a bad idea, Kabot admits. For instance, a spouse may want to take time off to have a family, using RRSP funds for financial support. When other income is down to zero, he points out, tax consequences of the RRSP withdrawal will be minimal and the strategy may make sense.

Although an investor may never make up for the tax-deferred compounding on the funds withdrawn, Kabot says, maximizing RRSP contributions in the future will help maintain the value of retirement savings in the long run.

Scotiabank’s poll found 72% of people who took money out of their RRSPs tended to withdraw less than $30,000. Most withdrawals (27%) were between $5,000 and $15,000, or less than $5,000 (27%). Kabot suggests the sums may not be “huge withdrawals” in terms of the total funds in the individual’s plan. As for the lifelong learning and homebuyers’ plans, Kabot believes they’re “very good, if used correctly.” That means paying back the borrowed funds according to the required schedule.

@page_break@The homebuyers’ plan, for example, may make it possible for someone to get into the housing market. But a couple taking $40,000 out of their combined RRSPs could materially affect the amount of money they have for retirement 30 years later. In such circumstances, he says, he would strongly encourage clients to repay the funds — “The sooner, the better.”

Earlier studies by Statistics Canada came up with findings similar to those of the Scotiabank survey. In a 2005 study of using RRSPs before retirement, Philip Giles and Karen Maser of Statistics Canada’s income statistics division in Ottawa looked at RRSP withdrawals made by tax filers aged 20 to 59 in the 1993-01 period. The study excluded RRSP withdrawals made under the lifelong learning and homebuyers’ plans, yet Giles and Maser found about one-quarter of tax filers in all age groups made withdrawals.

They said the likelihood of returning withdrawals to an RRSP is not high. Overall, the study found less than 40% if those who made withdrawals in 1993 had repaid the money by 2001. The proportion was even lower for the older age groups. For example, only 22% of those aged 50 to 59 in 1993 who took money out of an RRSP in 1993 had repaid it by 2001, putting themselves back to the situation they had been in prior to the withdrawal. According to Giles and Maser: “For older individuals, this could have serious implications in terms of the amount of income they can generate from their RRSP.”

Several life events were associated with an increased likelihood of withdrawing money from an RRSP, say Giles and Maser. People who lost a spouse frequently made a large withdrawal. People who involuntarily lost their job or started a new business often withdrew sums of $10,000 or more. IE