RRSP or TFSA: Which one is right for me?

RRSP or TFSA, that is the question!

If you have saved a certain amount of money that you want to invest, you may be wondering which of these accounts – both with their own tax advantage – is best suited to your goals, projects and financial situation.

There isn’t one answer suitable for everyone, in this blog post, we will explain different aspects you should consider to make the right choice for your personal situation: your savings goals, your investment time horizon and your current and future income.

Let’s dive in!

RRSPs vs. TFSAs: what’s the difference?

Before helping you choose between these two types of accounts, let’s start by reviewing their fundamental differences.

RRSPs in a nutshell

An RRSP is a federally registered retirement savings plan that allows you to accumulate tax-free savings.

By contributing to an RRSP, you also get a tax deduction, as the amount you invest lowers your annual taxable income. You will only pay tax on the funds in your RRSPs when they are withdrawn, generally when you retire.

Since your income is expected to be lower at that time, your marginal tax rate will also be lower (than during your working life), which means you will pay less tax.

In short, we could say that the main benefit of the RRSP is that it allows you to defer paying some of your taxes until after you’ve finished working, when you will have to pay less.

The TFSA in a nutshell

Created in 2009, the TFSA is also an account that allows you to set aside savings. While there are no upfront tax benefits – no tax deduction for your annual contributions – the investment income and capital gains earned in a TFSA are not subject to tax, even when withdrawn.

To learn more about RRSPs and TFSAs, you can find detailed posts about these two savings vehicles in our blog:

The RRSP in 9 questions… and 9 answers!

10 reasons to fall in love with the RRSP

TFSA: How to take full advantage of the Tax-Free Savings Account

Now that you have a better understanding of the characteristics of these two types of accounts, let’s look at the questions you should ask yourself before choosing one or the other:

1. What are your savings goals?

To make the right choice between a Registered Retirement Savings Plan (RRSP) and a Tax-Free Savings Account (TFSA), first ask yourself what you want to save for.

If you want to put money aside for your retirement, an RRSP is pretty much always the first option to consider. The funds in this account can also be used to go back to school through the Lifelong Learning Plan (LLP). In addition, the RRSP allows savers to utilize these funds to buy their first home as it entitles them to the Home Buyers’ Plan (HBP).

Psssst… a new and very advantageous tax tool will be introduced in April 2023 to help first-time home buyers. It’s called the FHSA! Learn more about it here.

The TFSA is best suited for short-term goals such as travel, renovations, and even an emergency fund. In fact, this account offers flexibility where an RRSP does not, because you can withdraw money at any time without consequences.

2. What is your investment horizon?

Beyond your motive to save, you should also consider how long you plan to leave your money in your account.

As mentioned, if you plan to use your savings in a relatively short period of time or want to be able to quickly withdraw your money if it becomes necessary, without paying fees, the TFSA is the way to go.

If you’re not convinced because you’d like to take advantage of tax deductions, remember that if you make a withdrawal from your RRSP in a relatively short period of time, whether it’s in one, three, five or even ten years, you’ll have to pay taxes on that amount at your current tax rate! You’ll have lost the benefits of the RRSP – paying taxes on your investments at a time in your life when your tax rate is lower (after retirement).

The purchase of a first home with the HBP and a return to school with the LLP are the only reasons it is possible to withdraw money from an RRSP without paying taxes, provided that specific conditions are met.

Learn more about the HBP by clicking here, and about the LLP by clicking here.

3. What is your income?

Next, your current and future income and therefore your current and future tax rates must also be taken into consideration.

The higher your tax bracket (thus your income), the more advantageous it is to contribute to an RRSP, as it offers you more generous tax deductions.

Plus, as explained above, when you retire and withdraw the money from your RRSP, your income will (normally) be lower than it was while you were working, and you will be in a lower tax bracket. You will therefore pay less tax on your RRSP withdrawals!

The advantages of an RRSP are twofold: it benefits you at the time of investment by offering tax reductions and it also benefits you at the time of your retirement thanks to a lower tax rate.

What if you are a low-income individual and want to save for retirement?

If you are in this situation, the TFSA is the way to go! By choosing a TFSA instead of an RRSP, you can continue to receive the Guaranteed Income Supplement (GIS) even when you withdraw your funds at retirement, because you will have already paid taxes on this “income” (remember, the TFSA does not offer upfront tax reductions). This money will not be taken into account for your current annual income, unlike withdrawals made from an RRSP-type account which allows for tax deferral.

And why not both?

For some individuals, it can be very beneficial to combine an RRSP and a TFSA. In fact, these two types of accounts can be used to meet different savings goals, and they can also be complementary. Here are some examples:

• Your TFSA could be used to supplement the retirement savings in your RRSP;
• You could use the funds in your TFSA to increase the down payment on your first property by combining them with the amount available through the HBP, the maximum amount allowed being $25,000 (which comes from your RRSP);
• The money in your TFSA could be transferred to your RRSP as your income progresses to take advantage of more generous tax deductions.

In conclusion…

Both RRSPs and TFSAs can have a place in your saving strategy! To determine which one is right for you, or if you should combine them, you need to consider what your goals are, your investment horizon and your income.

If you’re still unsure about which account to choose, or how to best allocate money between the two plans, contact us so that we can work together to set up a strategy that’s right for you.

As independent financial advisors, we can help you achieve your goals!

Contact us.