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How to choose between an RRSP and a TFSA

24 February 2020 by National Bank Investments
An advisor helping his clients choose between an RRSP and a TFSA.

Is it better to contribute to a Registered Retirement Savings Plan (RRSP) or a Tax-Free Savings Account (TFSA)? One does not replace the other, so it is best to contribute to both! While each option has its own ups and downs, one may be a more attractive choice depending on your age and personal financial situation. 

What is the difference between an RRSP and a TFSA?

These two savings vehicles meet different needs:

  1. An RRSP is a long-term savings vehicle intended for retirement, reducing the payable taxes on your current income when you save it for the future.
  2. A TFSA is a complimentary tool to help save for short-term goals (travel, education, renovations). They can also be useful in saving for retirement as they do not affect the amount of government benefits you receive, unlike RRSPs.

RRSP contributions can be deducted from your taxable income, whereas TFSA contributions are made with income that has already been taxed. This means they aren’t tax deductible.

That having been said, if funds are withdrawn from an RRSP, they will be considered taxable income and taxed at the rate based on a person’s current income, which is not the case with a TFSA.

Which one is best?

As with any financial portfolio, diversification should be a key aspect of a retirement savings plan. Opting for RRSP and TFSA accounts are conducive to building tax-sheltered savings.

A financial advisor can help determine which one would be more advantageous in a given situation. If the tax rate is higher now than it will be at retirement, an RRSP is likely the better option. However, if a person’s retirement income will be higher than their current income, they’re better off with a TFSA.

Government benefits may be reduced if pension income is considered in their calculations. Unlike with TFSAs, RRSP withdrawals are considered income. Therefore, a TFSA may be more advantageous as it better manages the total taxable income.

Nearing retirement age? Remember that at age 71, all RRSPs must be converted to Registered Retirement Income Funds (RRIFs), which will have a fiscal impact. In the case of RRSPs, funds are tax-deferred, but the tax rate will likely be lower at 65 or 70, as will a person’s income. This is not the case with TFSAs: with no age limitations, people can contribute throughout their life and, since they have already paid taxes on the funds invested, they will not be taxed again when withdrawals begin.

When it comes to estate planning, there are also major differences between the two vehicles from a tax standpoint. Both investment vehicles can designate a beneficiary. However, all amounts invested in an RRSP will be taxed upon the event of death (unless an eligible rollover is applied), while TFSA earnings cease to be tax-exempt after death.

Key differences between an RRSP and a TFSA
  RRSP TFSA
Which one
to choose?
Long-term savings vehicle intended for retirement. Complimentary tool to help save for short-term goals.
Deductible or
taxable?
Contributions can be deducted from your taxable income. Contributions are made with income that has already been taxed.
Income requirements
for contribution
Maximum contributions are determined based on a person’s income earned each year. Income earned annually does not have an impact on contribution potential.
Withdrawals When funds are withdrawn from an RRSP, they will be taxable. When funds are withdrawn from a TFSA, they will not be taxable.
Age requirements RRSPs must be converted to an income fund when a person turns 71 years old. There are no age requirements for a person to use the funds in a TFSA.

Legal notes

The information and the data supplied in the present document, including those supplied by third parties, are considered accurate at the time of their printing and were obtained from sources which we considered reliable. We reserve the right to modify them without advance notice. This information and data are supplied as informative content only. No representation or guarantee, explicit or implicit, is made as for the exactness, the quality and the complete character of this information and these data. The opinions expressed are not to be construed as solicitation or offer to buy or sell shares mentioned herein and should not be considered as recommendations.

National Bank Investments is a member of Canada’s Responsible Investment Association and a signatory of the United Nations-supported Principles for Responsible Investment.

©National Bank Investments Inc. All rights reserved. Reproduction in whole or in part is strictly prohibited without the prior written authorization of National Bank Investments Inc.

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