With so many savings options available, it can be challenging to find the right fit for your needs. Registered retirement savings plans (RRSPs) and tax-free savings accounts (TFSAs) are two popular savings vehicles. Both options are government registered and provide tax-advantaged savings.
What savings vehicle will work best for you depends on a number of factors, like your age, income, tax rate and future cash flow needs. Understanding the differences and benefits of both options will help you make the best decision for you, now and in the future.
The registered savings benefit
When you put money into a registered or non-registered account, it’s like planting a seed to grow a tree. Income generated from investments held within a non-registered account is usually taxed every year. Gains in the value of investments held within a non-registered account are also taxable when sold. It’s like pruning the tree, slowing some of its growth.
This isn’t the case with money held within an RRSP or TFSA, and the difference can quickly add up. This characteristic of registered accounts can help your money grow faster – it’s like watering the tree. The unique tax treatment of RRSPs and TFSAs, and the benefit of compounded growth, can mean a significant difference to your investments over time. Let’s take a closer look.
RRSP – Contributions to an RRSP give you an upfront tax benefit. You’ll receive a tax receipt for the contribution amount which can offset your income when filing your annual income taxes. It’s almost like paying yourself twice; you pay into your savings plan for your future and you get an immediate tax break.
Any gains in the value of the investments in an RRSP are tax deferred. You’ll only pay income tax on this money when it’s withdrawn from your RRSP at a later date. If you wait to withdraw money from your RRSP until retirement, you’ll likely pay lower taxes because your annual income may be less than when you were working.
TFSA – Unlike RRSPs, TFSAs don’t give you an upfront tax benefit. TFSA contributions are made with after-tax dollars. Any increase in the value of your TFSA is tax free. You won’t pay any taxes on money you withdraw at a later date.
Until what age can you contribute?
- No minimum age to contribute, but you must be earning income.1
- Maximum age to contribute is 71.
- You must convert your RRSP into an income annuity or a registered retirement income fund (RRIF) by Dec. 31 of the year that you turn 71.
- Must be 18 or older.
- Valid social insurance number required.
- Must be a resident of Canada.
- You can make contributions every year, regardless of age.
Annual contribution limits and deadlines
RRSP – You can contribute up to $24,930 or 18 per cent of your earned income for 2015, whichever is less. The RRSP contribution deadline for the 2015 tax year is Feb. 29, 2016. Contributions made after this date will result in a tax receipt for 2016.
TFSA – You can contribute a maximum amount of $10,000 for the 2015 tax year. There’s no deadline for contributions to a TFSA.
Unused contribution room
Did you miss a contribution opportunity in a previous year? Don’t sweat it – you can carry RRSP contribution room forward until you’re 71 and you can carry TFSA contribution room forward indefinitely. On January 1 of each year, your contribution allowance for that year resets. You can make a contribution for the new tax year, and you can catch up on unused room.2
What’s best for me?
There’s no hard and fast rule on which type of savings account is better. Both RRSPs and TFSAs are good choices for long-term savings, but there are a few key factors to consider when making a decision:
- If you’ll need to withdraw money in the near future, a TFSA is better suited for meeting short-term goals.
- If you’re able to maximize contributions to both account types, this generally makes more sense than putting money into a non-registered account.
- If you must choose one option, consider whether your total annual income is likely to increase or decrease over time.
- If you expect your income to increase, it may be a good strategy to contribute to a TFSA now, when you’re paying less income tax.
- Contributing to an RRSP later when you’re earning a higher income may give you a bigger upfront tax receipt at that time.
The sooner you start contributing to an RRSP or TFSA, the greater the growth potential. Your tree has more time to grow. I can work with you to help determine an approach that suits your situation best.
1 Earned income can be more than just your salary. For RRSP purposes, earned income is the annual total of: employment income, net rental income, net income from self employment, royalties, research grants, alimony or maintenance payments, disability payments from CPP or QPP and supplementary UIC payments. Your financial security advisor or investment representative can help you determine what this means for you.
2 How much unused contribution room do you have? For RRSP’s refer to your notice of (re)assessment from Canada Revenue Agency or Revenu Québec (listed as ‘Your RRSP deduction limit’). Your current year’s limit will appear on your notice from the previous year. For TFSA’s call the Tax Information Phone Service (TIPS) at 1-800-267-6999 or online via the Canada Revenue Agency My Account feature (http://www.cra-arc.gc.ca/myaccount/).