Avoiding the Penalty Box: Over-Contributing to RRSPs and TFSAs

With a Canadian silver medal at the recent 2021 IIHF World Junior Championship and the 2021 NHL season set to begin, it seems appropriate to speak about the penalty box – the Canada Revenue Agency (CRA) penalty box, to be exact.

Maximizing contributions to registered savings plans such as RRSPs and TFSAs can be a laudable financial goal. However, contributing more than your allowable limit will lead to penalties, not to mention the potential for frustration in getting the situation resolved. 

By keeping in mind these basic points about over-contribution, you can stay on the right side of the line.

What is the Penalty for Over-Contribution for RRSPs and TFSAs?

The CRA charges the same over-contribution penalty for both RRSPs and TFSAs: 1% per month on the amount over-contributed for the number of months the over-contribution has been in existence. Furthermore, there may be additional taxes and penalties if the basic penalty tax is not paid within 90 days of the end of the calendar year.

Here are some points to consider about over-contributing to RRSPs and TFSAs.

RRSP Over-Contribution

You can find your RRSP deduction limit by going online through My Service Canada or calling them toll-free at 1 (800) 959-8281. Additionally, CRA reports your RRSP deduction limit on your Notice of Assessment after submitting your annual tax return.

READ: 2020 Taxes and RRSPs: What You Need To Know

CRA has made some improvements over the past few years in how they report the RRSP information to make it clear how much new money you can place in your RRSP.

Directly underneath the indication of your RRSP deduction limit for the year, they subtract the value of RRSP contributions previously made that have not yet been deducted. The difference between the deduction limit and the yet to be deducted contributions is the amount of new money you can deposit – which they print in bold!

Why might you have unused RRSP contributions?

At the time of an RRSP contribution, you likely anticipated that your income would be higher in a future year – and so you are deferring the deduction to that year.

When you defer the deduction of some or all of an RRSP contribution – or if an RRSP contribution is being used to make a payment against the Homebuyer’s Plan (HBP) or Life Long Learning Plan (LLP) – Schedule 7 must be completed on your tax return. This is the schedule on which you report to the government how you are using RRSP contributions.

CRA does allow some “wiggle room” in regards to RRSP over contributions, to make allowance for unforeseen situations. Specifically, a cumulative lifetime over-contribution limit of $2,000 is allowed without penalty tax applying.

However, it is expected that over contributions will eventually be used as deductions as RRSP room is created.

TFSA Over-Contribution

TFSAs have exploded in popularity since their inception in 2009. As currently structured, some items can impact the calculation of your TFSA contribution limit apart and aside from the annual limit the government creates.

For example, any withdrawals from your TFSA in a given year will be added back to your available limit the following year, in addition to the annual limit created by the government.

READ: TFSA Savings Account: Moving Beyond Emergencies

Owing to the volume of TFSA transactions that are being reported to CRA by the issuing institutions annually, it is unwise to contact CRA to confirm your limit for the current year until around the end of March.

For 2021 – given that we are still in the middle of a pandemic – it is advisable to extend that into April.

When you do contact CRA for your TFSA limit, they will be quoting you the limit as of January 1 of the year for which you are calling. From that amount, you must deduct the amount of any contributions made since January 1 (if any) to determine the remaining limit.

The government has confirmed the creation of an additional $6,000 in TFSA room for 2021.

What to Do If You Over-Contributed to An RRSP or TFSA

If you find yourself in the “penalty box”, there are two basic solutions for correcting over-contributions:

1. Withdrawing money
2. Waiting for additional contribution room to be created that will absorb the over contributed amount

The withdrawal of money from an RRSP or TFSA will “stop the bleeding”, but penalty tax will still be payable for the period the over-contribution exists.

The turn of the calendar year will create more TFSA contribution room and more RRSP room provided there was qualifying earned income the previous year. If the new room created is sufficient to absorb an over-contribution, penalty taxes would still be payable to the end of the previous year.

In implementing these solutions, certain CRA forms will need to be completed, and we would recommend seeking professional tax advice to ensure the reporting is done correctly.

The toll-free number to contact CRA is 1 (800) 959-8281. When you call, you will need to have your Social Insurance Number (SIN) handy and the amount of income you declared on your most recent tax return. If you do not have this last piece of information, most CRA agents will have an alternate path by which to identify you.

Do you have an effective RRSP and TFSA contribution strategy? Talk with your Scrivens advisor to make sure!