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RRSP vs. TFSA: Which is best for you?
Whether you're new to the savings game or a wily old veteran, getting and staying on top of how you maximize your savings can be a considerable undertaking. So, when the question of which is right for you, an RRSP or a TFSA, arises, the answer can be a bit of a moving target.
Honestly, while there is a correct answer for everyone, it will vary depending on several factors. For some, it may end up being a bit of both. The most important thing is to understand the differences between the two.
There are many things to take into account when choosing between an RRSP and a TFSA. Here are a few things to keep in mind as you begin dialing in your plan to maximize your savings.
What are the differences?
RRSP
- Use: RRSPs are used almost exclusively for retirement savings. The front loaded tax rebate incentivizes this, while paying income taxes at the time of withdrawal serves to deter people from withdrawing for non-retirement purposes.
- Eligibility: As soon as you earn income you can begin contributing to an RRSP.
- Contribution Limit: Your contribution limit on your RRSP is 18% of your earned income or $27,830, whichever is less.
- Unused Contribution Room: Carried forward from previous years.
- Withdrawals: When withdrawn, RRSPs are taxable as income, with few exceptions.
- Withdrawn Amounts: Your contribution room is used up if you withdraw the funds.
- Taxable contributions: Contributions are tax deductible up to the limit and can be deducted from the current or previous year's taxes (for previous year deductions, only contributions made in the first 60 days of the following year are deductible).
- Plan Maturity: Matures at the end of the calendar year on the year you turn 71.
- Spousal Plan: You can contribute directly to your spouse's RRSP.
TFSA
- Use: TFSAs are utilized for more general savings. While contributions aren't tax exempt, withdrawals are, meaning that the cost of withdrawal, zero, doesn't change depending on your income.
- In order to open a TFSA, you must have reached the age of majority in your provincial or territorial jurisdiction.
- Contribution Limit: As of 2020, the contribution limit for a TFSA is $6,000 annually. For lifetime contribution limits, consult the Canadian Revenue Agency.
- Unused Contribution Room: Carried forward from previous years.
- Withdrawals: TFSA withdrawals are tax-free.
- Withdrawn Amounts: Contribution room are re-established the following year.
- Taxable contributions: Contributions are not tax deductible.
- Plan Maturity: Open ended, never matures.
- Spousal Plan: There is no spousal TFSA.
Things to consider
Whether or not you would be best served putting your money into an RRSP or into a TFSA depends on a lot of factors including:
- Stage in your life:
- Are you established in your finances, or are you just getting started? Have you reached the apex of your earning potential, or do you think you've got a ways to go before you reach your ceiling.
- TFSA's tend to be better for lower income earners because the tax deduction offered by an RRSP isn't as beneficial to one who doesn't pay as much tax, whereas high income earners benefit more from the deduction offered by an RRSP, provided the tax deduction is spent wisely.
- Are you established in your finances, or are you just getting started? Have you reached the apex of your earning potential, or do you think you've got a ways to go before you reach your ceiling.
- What are you planning to do with your money:
- Are you saving just for retirement, or do you have other big spends coming (house, vacation, vehicle, etc...), do you have a savings account for emergencies?
- Your first thought might be that if you were saving for a down payment on a home you might favour TFSAs, but the CRA's Homebuyers Plan actually allows you to borrow from your RRSP, penalty free for a period of up to 15 years, whereby you can pay the funds back, penalty free.
- If you feel like you might need access to your funds periodically for other big purchases, a TFSA is usually the way to go, as the contribution room gets replenished and you aren't penalized for withdrawing.
- Are you saving just for retirement, or do you have other big spends coming (house, vacation, vehicle, etc...), do you have a savings account for emergencies?
- How are you fixed for other retirement income:
- If you have a defined benefit pension through work, increasing your annual taxable income may not be the best decision for you. Because of this, a TFSA may be the better option.
- If you're saving for retirement yourself, RRSP are usually the way to go.
As you can see, the RRSP vs. TFSA question varies a great deal depending on your personal circumstances, goals, values. If you still aren't sure about which is best for you, we have experts that can help.
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