Tax - Preferred Savings Accounts and Marginal Tax Rates : Evidence on RRSP participation

The percentage of Canadians with earned income who contributed to a Registered Retirement Savings Plan increased from 18.7 per cent in 1982 to 46.0 per cent in 1996. This period also saw many changes to the income tax structure. Using household expenditure survey data, I examine the influence of taxes on the decision to contribute to Registered Retirement Savings Plans. I improve on existing work by identifying the tax effect from within jurisdiction variation through time, rather than cross-sectional variation alone. I find that taxes do play a role in the contribution decision, but the effect of taxes is much smaller than suggested by the existing literature. A 10 percentage point increase in the marginal tax rate is estimated to increase the probability of participation by 8 per cent. This suggests that increases in marginal tax rates can explain only 5.1 per cent of the increase in Registered Retirement Savings Plan participation between 1982 and 1996. A carryforward mechanism for unused contribution room was introduced in 1991. I find evidence that the sensitivity of participation to future marginal tax rates increased after the introduction of the carryforward. This is consistent with the predictions of the model. ∗This research is financially supported in part by the Social Science and Humanities Research Council. †Department of Economics, University of Toronto, 150 St. George Street Toronto, Ontario, Canada, M5S 3G7 and Department of Economics, University of British Columbia, #997–1873 East Mall, Vancouver, BC, Canada, V6T 1Z1. E-mail:[email protected]