Sean made $60,000 last year. His employer collected and remitted $20,000 in taxes to the Canada...

Sean made $60,000 last year. His employer collected and remitted $20,000 in taxes to the Canada Revenue Agency. If Sean’s current marginal tax rate is 35% and he expects his marginal tax rate in retirement to be 25%, how much tax will he save by making a $5,000 RRSP contribution this year?

Expert Solution

Retirement savings plans that are funded by an individual rather than an employer are known as Registered Retirement Savings Plans (RRSPs). RRSP contributions that qualify under the Canadian Income Tax Act are deductible for any given year if they are contributed in that year or within 60 days after the end of that year and the total does not exceed the individual's contribution room for that year. Generally, the annual deduction for contributions to an RRSP is limited to the lesser of the following:
1. Eighteen percent of the individual’s earned income (i.e., employment, self-employment and rental income subject to Canadian income tax) for the prior calendar year, or
2. The RRSP limit for the year (CAD26,500 for 2019 and CAD26,230 for 2018).

In the given example, the eligible deduction would be $ 5000 as the same is less than the allowed limit.

The tax savings for $5000 contribution will be $1750 (35% of $5000)

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