TFSA or RRSP?

TFSAs are catching up to RRSPs as the preferred savings vehicle. In 2010, TFSA contributions totalled $21.8 billion versus $33.0 billion in RRSP contributions, the CBC reported. By mid-2011, just two and a half years after TFSAs were introduced, assets had soared to $54.4 billion. So how does this new opportunity impact the appeal of RRSPs?

Both types of registered accounts offer tax-sheltered savings. With an RRSP, you claim a tax deduction for your contribution, grow assets tax-deferred and then pay tax on withdrawals. You don’t get a tax deduction when you add to a TFSA, but your money will never be taxed or affect income-tested benefits like Old Age Security.

Among the issues to weigh in the TFSA vs. RRSP decision:
  • Marginal tax rate now and at retirement: If you expect to move to a lower tax bracket in retirement, then the deduction you receive now will be greater than your tax rate upon withdrawal. This favours the RRSP.
  • Plans for tax refund: Will you spend your refund (as most people do) or invest it? If you intend to spend, the TFSA is favoured. If you will reinvest, the RRSP contribution becomes more attractive.
  • Financial discipline: It stings to withdraw from RRSPs because the full amount is taxed and potentially subject to withholding tax. There’s no disincentive to tap into a TFSA. If you will be tempted to raid your TFSA, it’s better to build and protect your savings in an RRSP.
  • Pension: If you’re in a company pension plan, your RRSP contribution room may be small and you’ll want to focus on topping up your TFSA. You can use your TFSA to supplement pension income and potentially leave an estate.
  • Retirement income needs: Will TFSAs provide enough to support you in retirement? To date, Canadians have been able to invest only $25,500 in capital. In all likelihood, you need to use both TFSAs and RRSPs.

For many people, using both a TFSA and RRSP offers enormous flexibility in creating a tax-efficient retirement income strategy. For example, in years when you need extra cash, you could make tax-free withdrawals from your TFSA. And in years you don’t need to spend your minimum RRIF withdrawal, you could deposit it in your TFSA for additional tax-free growth.

Whether your retirement is in the distance or around the corner, we can help you design a holistic plan that uses the right balance of plans to meet your personal situation and objectives.