Since the creation of the TFSA a few years ago (2009), several Canadians are wondering about which account is the most profitable for them: RRSP or TFSA?
The answer is not the same for each individual. In fact, it greatly depends on your overall current financial situation and your financial situation at retirement. For example, if you have a high income while you work and have a defined contribution pension plan, chances are that your marginal tax rate will still be high at retirement. Your pension plan along with OAS and CPP will probably hit over 50K. Therefore, withdrawals from your RRSP will be taxed at a high rate compared to a non-taxed TFSA withdrawal.
Before I go with more example, please consider the TFSA Vs RRSP rules chart below:
TFSA Vs RRSP Comparison Chart
|Minimum age to start contributing||No minimum. The individual must declare income.||Minimum age of 18.|
|Maximum age||71 (for you or your spouse if you are doing spousal contribution)||No maximum.|
|Maximum amount of contribution||$22,970 or 18% of declared income as at 2012. The maximum amount is increasing each year and determined by CRA. The maximum contribution is also reduced by your pension adjustment (PA) if you are under a definted contribution plan.||$5,000 per year as at 2009. Contribution limit will be determined by CRA (should be following inflation with $500 increase)|
|Contribution is tax deductible||Yes.||No.|
|Investment gains (interest, dividend and capital gains) are not taxable||Yes.||Yes.|
|Spousal contribution are permitted||Yes.||Yes (but does not come with any advantages beside investment income splitting).|
|Withdrawals from the account are taxable.||Yes. They are not taxable in a case of a Home Buyer Plan and to go back to school (those 2 programs work under certain restrictions).||No. Withdrawals from the TFSA are not taxable.|
|Unused contribution room can be carried forward.||Yes.||Yes.|
|You can “reimburse” your withdrawal in the account.||No. You can only reimburse under the HBP and return to school program under certain restrictions.||Yes. You can reimburse your withdrawals from the TFSA at any time without penalties.|
Now that you understand both RRSP and TFSA rules, let’s take a look their pros and cons. I’ve selected them according to their distinction. For example, we all know that both accounts are tax sheltered; therefore, there is no point of mentioning it in both. Let’s look at TFSA Vs RRSP for the difference:
Most Important RRSP Pros
- The feeling of getting a big check from the Government (since RRSP contributions are tax deductible).
- The “obligation” of keeping RRSPs for retirement (since RRSP withdrawals are taxable, it is not tempting to withdraw your money prior to retirement).
- This is where all US stocks should be hold (since it’s the only type of account where you don’t pay taxes on US dividends).
Most Important RRSP Cons
- You can’t run away from the tax guy (RRSP withdrawals are taxable).
- RRSPs are not flexible in term of withdrawals (Besides LLP and HBP, all withdrawals cannot be reimbursed).
- You can leave money on the table at retirement (for low income individuals, RRSP withdrawals could result in a diminished Guaranteed Income Supplement (GIS) check form the Government).
Most Important TFSA Pros
- It’s more flexible than a contortionist (You can withdraw money from the TFSA at any moment without being taxed and you have the ability to reimburse the amount withdrawn upon the next calendar year).
- It’s never taxed (this is important for both high income earner and low income earner at retirement. While the first group will save due to their high marginal tax rate, the latter will be granted by additional Government help such as the GIS).
- You can grow your contribution room upon withdrawals (please read about TFSA Contribution to see its full potential).
- It’s a great way to do investment income splitting with your spouse (attribution rules don’t apply on TFSA since nobody is taxed. Therefore, you can do spousal contributions without any impacts on your tax report).
Most important TFSA Cons
- It doesn’t count as a retirement account (this means that US dividend stocks are subject to withholding taxes of 15%).
- Saving potential is limited (The current TFSA contribution limit is set at $5,000 per year. This is not an important amount compared to one’ saving ability).
- You may use your TFSA the wrong way (there is a lot of advertising to use your TFSA as an emergency fund or savings account at a low interest that doesn’t even match inflation. Please check out the TFSA investing strategies to invest better).
Is there a clear winner when you match-up TFSA Vs RRSP? Not really! It definitely depends on how you will use your account and what your financial situation is. If you have any questions, please use the contact form, I’ll be happy to help you out!