TFSA or RRSP? Which to choose?

It depends on your tax bracket and savings goals

As the tax-filing season is here once again, it’s time to think about how best to maximize your financial wealth. The graphic arts industry employs over 10,000 Canadians, mostly in what Stats Canada calls small- to medium-sized businesses. These employees range in age from first employment to seniors who are ready to retire soon. Likewise, their tax brackets range from lowest to highest. Furthermore, their savings objectives can be very different, and that’s why there is not often an obvious answer to the question: “Where should I invest my pre-tax dollars to gain the best financial benefit?”

Beyond the tax shelter

Both the contributions to RRSPs and TFSAs shelter you from immediate tax consequences as long as these investments remain within their respective accounts. The RRSP further provides the benefit of reducing your taxable income, reducing your immediate tax payable. However, when you remove the funds from your RRSP, preferably during retirement when you have less sources of taxable income—and therefore a lower tax bracket—the money withdrawn becomes fully taxable. TFSAs, on the other hand, don’t reduce your taxable income—which means that they don’t incur taxes when they are withdrawn.

In the December 2014 issue of Graphic Arts Magazine, I provided a detailed look at the actual return on investment advantages of an RRSP (see Should you invest in an  RRSP?). Bottom line: If you continue to invest yearly into an RRSP, and don’t withdraw the money until retirement, RRSP is almost always a better financial investment than a TFSA. Further, dollar for dollar, an RRSP investment increases your current cash flow, even if it reduces your income when you’re in your seventies—and most people with families need the cash flow now.

This is not necessarily true in situations where you can’t afford to be without access to the savings until retirement. For example, if you’re young or a parent of young children, you have many more financial requirements on the horizon—such as marriage, education costs, children’s weddings, children coming-of-age events, down payments for a new home, family vacations, etc. In other words, you know that you can’t put your money away until retirement, or comply with the stringent rules of “borrowing” money from your RRSP. In those cases, TFSA’s become much more attractive.

Spousal RRSP and other considerations

Now that doesn’t seem like such a complex choice. However, there are other considerations. What if you’re a single-income family, or a family where the income disparity between spouses results in significantly different tax brackets. A spousal RRSP enables the couple to gain all of the benefits as described above, and adds the benefit of moving income to the lower earner. While that has no effect on current wealth, it will mean that at retirement age, as the RRSP was split, each spouse will likely be in a lower tax bracket and pay less tax than if all the income was with one of the partners.

Do you have a home that has a mortgage that you’re paying off? Do you want to invest in an RESP (Registered Education Savings Plan) for your children? Are you an owner, or a healthy middle-aged employee who intends to work beyond the age of 71 (the age when you must start withdrawing taxable funds out of your RRSP)?

With respect to your mortgage, most financial experts agree that it’s always best to pay down your mortgage first. However, while this is a simple rule of thumb, it hasn’t been as financially beneficial in the past year with home interest rates low and the stock market high (where your RRSP or TSFA funds may reside).

Regarding RESPs, the federal government matches 20% of your contribution for each child to an annual maximum of $500 or $7,200 over the life of the plan. In Alberta and Quebec, there is also provincial matching.

If you intend to work beyond 71 years, the current mandatory age when to begin withdrawing RRSP funds, you’ll probably not have a significant future tax advantage. Nevertheless, this author has always followed the philosophy that since we don’t know what the future will bring, it’s best to save the tax dollars now. Happy holidays!

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Elliot Schiller is a Director at Toronto’s Teeger Schiller Inc., a firm specializing in government funding and systems selection/implementation. His clients receive over $5 M annually to support ongoing business innovation. E-mail eschiller@teegerschiller.com, visit www.FundingHelp.ca or phone 1-888-816-0222 Ext. 102