The TFSA vs. RRSP debate

Preparing for life after work. RRSPs, RRIFs, TFSAs, annuities and meeting future financial and psychological needs.
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Peculiar_Investor
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The TFSA vs. RRSP debate

Post by Peculiar_Investor »

I know that TFSAs versus RRSPs has been debated/discussed before. There was an article today Timing is everything: The long and the short of the TFSA vs RRSP decision | Financial Post that got me thinking about it again, particularly since the TFSA has now been around long enough for solid strategies to have emerged and some myths to be debunked.
Garry Marr wrote:The registered retirement savings plan, 60 years running as of 2017, has had a big head start when it comes to personal financial planning in Canada, but after eight years of existence, the tax-free savings account appears to making up ground fast.

As they now both do battle for your hard-earned savings, the right vehicle for you can come down to a number of factors, not the least of which might be your plans for the money and whether you’ll be accessing it in the short-term, medium term or long-term.
I must admit I'd never approached it from a timeframe point of view. Perhaps that's because of my age, RRSPs have been a fundamental building block for our retirement planning for as long as I can remember, while TFSA's are the newcomer on the block. We're in the fortunate position of being able to use both, but what's got me thinking recently has been helping my adult children work through the decision process on which is better for each of them and why.
Garry Marr wrote:One short-term problem becoming increasingly more common for savers could be sudden employment and a need for cash fast. A withdraw from your RRSP would face a withholding tax plus it would count as income in the year you had employment.
It seems clear to me that the liquidity benefits of the TFSA make it an ideal choice for building up an emergency fund for younger Canadians (i.e. my adult children).
Garry Marr wrote:Your time horizon depends on how you define it but a house leans more towards that medium term and the RRSP has a plan to, at least partially, address housing prices.
Because we'd long bought and paid for our house, I'd never considered this perspective, but I can see how it applies for my children.
Garry Marr wrote:The whole idea of an RRSP is being in lower income tax bracket in retirement, when you withdraw the money.

"It's just not the case anymore. ..."

<snip>

In your retirement, TFSA withdrawals will have the advantage of not counting towards as income in terms of clawback of Old Age Security
Once upon a time it seemed easy to forecast that you'd be in a lower income tax bracket in retirement. But over the course of my investment career, I've seen firsthand that this basic assumption doesn't always hold true. We've moved provinces, which brings new tax brackets and tax rates into the mix that I would have never considered 20+ years ago. If I look back, the range of tax brackets and tax rates has swung quite a bit. Without looking them up specifically, my instinct confirms the statement that it's not the case anymore of being in a lower income tax bracket in retirement.

I've bookmarked the FP article (actually saved a PDF version) and added it to the investment reading folio that I'm maintaining for my adult children for the day if/when they come more interested in managing their own investments. But that's a topic for another discussion.
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Re: The TFSA vs. RRSP debate

Post by StuBee »

My two bits:

All couples who are in their mid to late twenties already have up to 100K$ of combined TFSA contribution room. Add to that the notion, with which I quite agree, that the MTR in versus out advantage is overrated and the differences between the TFSA and RRSP rapidly disappear. Of course, the question is moot it funds are sufficient to finance both.

Perhaps all (or most of) what must be borne in mind is the absence of all tax-related consequences to TFSA withdrawals and the advantage of no withholding tax on (many) foreign investments in an RRSP.
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Re: The TFSA vs. RRSP debate

Post by izzy »

Two important distinctions (for us older folk) are
1.that the TFSA does not require earned income and
2.there are no age related restrictions
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Re: The TFSA vs. RRSP debate

Post by adrian2 »

There is still a significant drag on US dividends in TFSA vs RRSP.
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Re: The TFSA vs. RRSP debate

Post by ghariton »

A couple of things to keep in mind.

(1) The tax deduction for a RRSP contribution does not have to be used right away. It can be carried forward and used in the year of maximum MTR. (That does require a bit of forecasting.)

(2) I personally think that the long term trend for tax rates in Canada is up. I cannot imagine how the debts at both federal and provincial levels will be viable without a combination of (a) higher taxes (b) reduced spending (most unlikely) and (c) significant inflation.

Higher tax rates can be targeted at various sectors of the population, while inflation hurts everyone. I think that the political choice is a no-brainer.

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Re: The TFSA vs. RRSP debate

Post by steves »

Geez. I wrote this way back in 2005, but I think it still applies. The TFSA was called the TPSP for some reason.

http://www.fimetrics.com/indexed-bracke ... e-RRSP.pdf
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Re: The TFSA vs. RRSP debate

Post by deaddog »

I see the TFSA as having the following advantages;

The investor get to choose when and how much will be withdrawn. I like being in control.

Withdrawal will not affect income earned so will not have any affect on tax brackets or government subsidies.

No tax consequences on death.

There is no penalty for withdrawing money to fund expenses. Amounts withdrawn can be replaced any time after the next year.
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Re: The TFSA vs. RRSP debate

Post by kcowan »

I always invested the maximum allowed in RRSP and then spent the tax returned. I know it was not what I was supposed to do but I did get forced investment savings out of it. (I had a db pension so it was minimal.)

Today I am going to invest $5500/yr in each of my grandchildren when they turn 18. This might not turn out well but I am going to ask them to leave it alone. If they don't, the contributions will not continue.

I have used the RESP to the max for all 5. I think I am doing what I can to maximize our yield in the Canadian tax system.

The only thing I could do better is to buy a principal residence in Vancouver. But right now we only spend 5 months there. I keep it up because it is financially attractive.
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Re: The TFSA vs. RRSP debate

Post by Peculiar_Investor »

Given that January-February was (or is?) RRSP season, I'm expecting more articles to be written on the subject.

Here's a couple more, For boomers the RRSP decision was easy, but for millennials things are a little more complicated | Financial Post
Jonathan Chevreau wrote:To summarize, the RRSP was the only game in town for the boomers so it was a no-brainer. For millennials, the TFSA is a no-brainer for those in low tax brackets. If you’re in higher brackets, the RRSP becomes a compelling tax incentive, but, by definition, if you’re in a top tax bracket, you also have enough money to maximize contributions to a TFSA as well as the RRSP.
I think that's a pretty good summary of both, particular when this boomer looks at them and then attempts to help their millennial children work through which is better.

Of course, if the Financial Post has an article, there must be a corresponding Globe and Mail article. Right on cue, RRSP or TFSA? How they contrast and compare as life circumstances change - The Globe and Mail
“Young out of the gates, I would say TFSA. Probably they’re not earning that much yet. So the tax deduction of the RRSP is likely to be better served in later years when their incomes are higher and their marginal tax rates are higher,” Mr. Kingston says.

When money is put into the RRSP and has to be withdrawn, in most cases it is a taxable withdrawal [notable exceptions being the allowable housing and education withdrawals which have specified payback times] and the contribution space is forever lost. But with the TFSA, money can be withdrawn and then within or after the next calendar year, it can be recontributed if the funds become available, Mr. Kingston explains.
Lastly, of course our wiki covers the debate in TFSAs versus RRSPs - finiki, the Canadian financial wiki.
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Re: The TFSA vs. RRSP debate

Post by Peculiar_Investor »

Right on cue, this time from Morningstar TFSA, RRSP or taxable? Why your best answer may be 'yes' | Christine Benz
Christine Benz wrote:The broad message is that unless your situation is one of the black-and-white examples I discussed above, splitting your assets among TFSA, RRSP and taxable accounts enables you to cope with a variety of tax climes. It also lets you pick and choose where you go for withdrawals, thereby minimizing the taxes you owe on your withdrawals from year to year.

If you're already retired and have the latitude to draw assets from vehicles with different tax treatments, it's worth checking in with a tax advisor to help strategize about where to go for income on a year-by-year basis. Although the sequence of withdrawals I discussed in this article provides a good starting point for such decision-making, methodically depleting each asset pool one by one won't necessarily be the most tax-friendly strategy. Keeping your asset pool diversified by tax status throughout retirement can help you exert a higher level of control.
What's somewhat interesting to me about this article is Christine Benz is the US based Morningstar's director of personal finance, yet is writing (ghost written perhaps?) articles about Canadian taxation issues.

It seems pretty clear that the TFSA vs. RRSP debate generally results in "it depends". That's not a bad thing as everyone's circumstances are different. It seems educational to me to have a framework of references to review to help make sure the issues are understood before choices are being made.
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Re: The TFSA vs. RRSP debate

Post by 2of3aintbad »

Every year, you have until the end of February to decide If it makes sense for you to contribute to an RRSP. So if you will have enough expected cash flow, even if you BORROW to make your RRSP contribution, you will be OK as long as you pay off the loan quickly. So why not maximize your TFSA contribution as early as possible, eg. January 2016, and make the RRSP decision in February 2017. Even if you cash in some of your TFSA to fund that RRSP in February 2017, you can always recontribute in January 2018.
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Re: The TFSA vs. RRSP debate

Post by ghariton »

Peculiar_Investor wrote:It seems pretty clear that the TFSA vs. RRSP debate generally results in "it depends".
Yes,

I can easily imagine situations where a RRSP is better than a TFSA and vice versa. I can even imagine situations where a non-registered account is better than a RRSP. But I cannot imagine any situation where a non-registered account is better than a TFSA, if you have room in the TFSA.

Well, I can imagine one situation where a non-registered account is better than a TFSA. That's if you're a US citizen and have to deal with the IRS.

So I don't quite understand the recommendation to diversify across all three kinds of account -- unless you run out of room before you run out of money, and that's not really diversification.

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Re: The TFSA vs. RRSP debate

Post by patriot1 »

ghariton wrote:Well, I can imagine one situation where a non-registered account is better than a TFSA.
Here's another more relevant to most of us. For some incomes you can have a negative marginal rate for dividends due to the dividend tax credit. So you will pay less taxes holding the stocks in a non-reg account. Of course at time of sale there's also the capital gain/loss issue that could go either way.
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Re: The TFSA vs. RRSP debate

Post by ghariton »

patriot1 wrote:For some incomes you can have a negative marginal rate for dividends due to the dividend tax credit.
Interesting. Would that be where you have a big business or capital loss, reducing your total income to close to zero? If not, could you give an example?

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Re: The TFSA vs. RRSP debate

Post by DavidR »

ghariton wrote: Interesting. Would that be where you have a big business or capital loss, reducing your total income to close to zero? If not, could you give an example?
George
Much easier than that: for an Ontario tax payer in the first tax bracket (up to $45,282 of income for 2016) the marginal tax rate on Eligible dividends is negative.
Try it out with 2016 tax software: Enter a T4 slip for $25,000 with CPP and EI and income tax deducted, such that no taxes are owing. Now add $1,000 of eligible dividends. Refund $68.58 The dividend tax credit is larger than the tax.
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Re: The TFSA vs. RRSP debate

Post by ghariton »

Thank you. I had forgotten that a large proportion of Canadians pay no income tax.

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Re: The TFSA vs. RRSP debate

Post by DavidR »

The dividend tax credit is non-refundable.
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Re: The TFSA vs. RRSP debate

Post by max88 »

Can we ditch TFSA and RRSP? All the great minds on FWF can be put into better use.
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Re: The TFSA vs. RRSP debate

Post by izzy »

THE biggest advantage of the TFSA is that unlike the RRSP it doesn't expire until you (and your spouse) do!
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