Thursday, February 28, 2019

RRSP vs TFSA: What to Consider Before you Invest




RRSPs and TFSAs are really a gift we have access to as Canadians from our Federal Government. They provide a great avenue for us to invest on a tax-sheltered basis.  The big benefit of the RRSP over the TFSA is the immediate tax deduction you receive when you make a contribution. So you are always going to have a bit of a head start with an RSP contribution because you are investing with money that hasn’t been taxed yet.

When to prioritize an RRSP: 

  • You don’t have a pension through your employer
  • You are on a higher end of tax brackets in terms of your income 
  • You are saving with a long term horizon
Once you are making over $40,000 annually an RRSP deduction starts to become more attractive as the likelihood of you being in a lower tax bracket in retirement has increased. The main strategy here is to deposit the money while you are in a higher tax bracket and defer the income tax until retirement when in all likelihood you will be a lower tax bracket.

When to prioritize the TFSA:

  • Your Income is under $40,000
  • You need flexibility
  • You need the money in the shorter term as more of a lump sum 
  • You have a hot stock tip :), as you will want to be able to access your windfall on a tax free basis 
  • Great savings vehicle for large purchases, renovations, trips, emergency fund
If you think you are going to be in a much higher tax bracket in the next couple of years, it may make sense to hang onto some of that RRSP room and only claim the deduction when you are in a higher tax bracket and getting more bang for your buck.


Some Quick Facts:

RRSP: 

  • Gains are only taxed when they are withdrawn. 
  • You lose your contribution room once you make a withdrawal unless you qualify for one of the prescribed programs (Home Buyers Plan or Life Long Learning Plan).


TFSA:

  • Gains and withdrawals are never taxed. 
  • You can replace any money you have withdrawn including the growth

RRSP and TFSA FAQs:

How should I invest the money in my TFSA and RRSP?:
Financial advisor or planner can help you decide which investments to choose based on your risk tolerance, time horizon and objectives. What you want is a low cost, balanced, and broadly diversified portfolio that is easy for you to follow and understand. 

Should I withdraw money from my RRSP to pay down debt?:
If you have exhausted all other avenues; you’ve seen a credit counselor, you have tried consolidating debt and you have no other options. You will want to make sure the tax hit you take from making the withdrawal is less than the interest you are paying.

Where do I go to get Fee Only Financial Advice?:

Start with a Certified Financial Planner who works on Fee Only or Fee for Service basis: these individuals will charge you just for advice and they have no motivation to sell you additional products. They typically charge by the hour or by the plan. 

Common mistakes I see:

Sometimes your accountant and your investment advisor are different people and they aren’t looking at your finances as a whole. Taxes and investments are intertwined so you should have someone that you trust to look at your finances as a whole.

Watch your limits. There are penalties for making over contributions into these plans.

I will often see people holding cash in non-registered savings accounts when they could be taking advantage of the tax savings in an RRSP. Taking the time to make sure your investments are in the right accounts is a crucial strategy for building wealth. Ask for help if you are not sure where everything should go.

Limits:
TFSA:  2019 limit 6,000 your cumulative limit $63,500 assuming you have been eligible to make contributions since they were introduced in 2009

RRSP: 18% of your previous year's income up to a limit of $26,230 for 2018 or $26,500 for 2019

Quick tips:

  • Take full advantage of group RRSP contribution matching plans through your employer if available
  • If you have a feeling you have an investment will increase in significant value, consider the TFSA
Related Resources:
Here are some of our Media Mentions this year around the topic of RRPS and TFSAs:
Global News: Money123 Newsletter 
CBC Radio Ontario Morning: RRSP Deadline (I appear at minute 26:00)




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