The Dangers of Cashing in your RRSP Before Retirement

RRSP Savings Jar

Life happens, and when bills or debt are mounting, you may be tempted to cash in your RRSP in order to get out of a difficult situation. But your RRSP is meant to be drawn down on when you retire, so there are some real consequences to cashing it in prior to retirement, so it’s important to think carefully and consider all of your options prior to doing so.

“The obvious consequence to cashing in your RRSP is that you may not be able to retire when you want to and will be forced to delay retirement,” says Leslie Hanson, Wealth & Retirement Advisor at Cambrian Credit Union. But that’s not the only consequence to be mindful of, says Hanson. “If you’re working and cash out your RRSP chances are you will end up paying more taxes on it than you would if you cashed out once you retired,” she says. When you cash out your RRSP, keep in mind that financial institutions are obligated to withhold tax, so it’s important to let your advisor know what your expected income for the year is, and request that the tax be withheld at your average rate. “You want to make sure that when it is time to file your taxes the next year that you’re not hit with a bigger tax bill than you were expecting,” Hanson says.

Another consequence to consider is if you’re cashing out your RRSP at a time when the market happens to be down, you will be crystallizing your loss when cashing out. “I always say that it’s time in the market, not timing the market,” Hanson says. “Remember, when you cash out your RRSP early, you are giving up that much more time in the market for your portfolio to grow.” 

Whenever possible, look for other solutions before cashing out your RRSP. “Withdraw funds from your TFSA, savings account, or non-registered funds first,” Hanson says. “If you’re cashing out non-registered funds you may have a capital gain you will be required to pay tax on, but the tax hit will not be as much as it would be if you withdraw from your RRSP,” she says. Another option to consider is borrowing money to get through your cash crunch. “We’re in a low interest rate environment right now, so you are probably going to be far better off trying to arrange to borrow funds and pay back a loan, as opposed to cashing in your RRSP and paying tax on it,” she says.