RRSP vs TFSA – both are registered accounts that are great for saving money, but they come with distinct features and benefits. Deciding on which one depends on your specific objectives and priorities.
Registered Retirement Savings Plan
The RRSP was created to help you save for retirement. Investments within grow and earn income on a long-term, tax-deferred basis, as long as the funds remain in the plan. Tax is payable when you eventually withdraw funds from your plan. The plan is registered with the government, but your financial institution needs to administer it. There are limits to the tax-deductible contributions, up to the deduction limit found on your most recent Notice of Assessment from the CRA. You can invest in many different types of investments, and you get credit on your tax return when you contribute. You must close your RRSP by the end of the year you turn 71.
Tax-Free Savings Account
A TFSA is a savings account that allows you to earn tax-free investment income, ideal for those who are looking to save for shorter-term goals, like home renovations or a vacation. The account is registered with the government, but your financial institution needs to administer it. TFSAs offer no up-front tax break, but you don’t pay tax on any withdrawals. There are limits to your contributions. Any unused contribution room can be carried forward indefinitely. You can invest in many different types of investments. There’s no credit on your income tax return when contributing and no tax paid on gains or withdraws.
What are the annual contribution limits?
For RRSP’s check out your CRA My Account or your deduction limit found on your most recent Notice of Assessment from the CRA. It sits at 18% of your income, up to a maximum of $29,210. For TFSA’s the limit is currently $6,000. Both accounts also allow you to carry forward unused contribution room. But beware: both have penalties for over-contributing, a tax of 1% per month on the excess funds.
What does retirement look like for you?
Are you planning on having a decent income without needing to pull out your RRSP/TFSA money? Then TFSA gives you more flexibility. Remember that any CPP, OAS, company pension, inheritances, family trusts, could add to your income. What will your cashflow needs be, will you have any mortgage to pay? You’ll no longer have any working expenses to pay, and the kids are grown and gone.
What income tax bracket are you in?
People may use registered savings options like TFSAs and RRSPs differently, based on their personal situations. The higher your income, the higher your personal tax bracket and the lower your income, the lower your personal tax bracket may be. The best way to choose an RRSP or TFSA is to compare the percentage of income tax you pay each year to the rate you expect to pay in retirement. How do you want to live in retirement? Do you want to indulge in travel and hobbies like golf? Or are you okay with your current standard of living? How much will your retirement plans cost each year and how much tax will you pay? Remember to include both federal and provincial taxes.
Do you predict that you’ll have:
A higher bracket now and a lower tax rate in retirement? You may want an RRSP.
A lower tax bracket now with a higher tax rate in retirement? You may want a TFSA. Keep in mind that people often don’t consider the time value of money..
What to invest in?
Investments that can be held in an RRSP are called qualified investments. They include:
- Gold and silver bars
- Savings bonds
- Treasury bills
- Bonds (including government bonds, corporate bonds and strip bonds)
- Mutual funds (only RRSP-eligible ones)
- Exchange-traded funds (ETFs)
- Equities (both Canadian and foreign stocks)
- Canadian mortgages
- https://www.willow.ca/en/home (Coming Soon)
Investments you can’t hold in an RRSP:
- Precious metals and gems
- Commodity futures contracts
- investments in entities in which you hold an interest of 10% or more.
- Non-qualified investments – Examples: shares in private holding companies, foreign private companies and real estate
You can hold many of the same investments you hold in your RRSP in your TFSA, including:
- Mutual funds
- Exchange-traded Funds (ETFs)
How to invest it
It really depends on the amount you have. If you’re just getting started, consider a lump-sum deposit. Simply use any amount you have saved somewhere and contribute it to your RRSP. You’ll get a tax deduction in the year you contributed. You can DIY, use an independent Advisors, Robo Advisors, or one of the big banks. There are pros and cons to the employees at the big banks, and Tech has made this a lot easier in the last number of years, so you may decide to dip your toes into Wealthsimple, Questrade, or TD Direct investing.