TFSA or RRSP? Which makes the most sense for you?

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It seems the comparison of the Tax Free Savings account (TFSA) versus Registered Retirement Savings Account (RRSP) is still often misunderstood.  


At the risk of over-simplifying , let’s start with some fundamentals.


  • Contribute up to 18% of previous year’s earned income (to maximum $24,930 for 2015 tax year, and $25,370 for 2016 tax year)


  • Contribute after age 18 effective January 2009
  • 2009-2012 Annual Limit $5,000
  • 2013-2014 Annual Limit $5,500
  • 2015 Annual Limit $10,000 
  • 2016 Annual Limit $5,500 (and going forward until changed in Federal Budget)
  • Tax deduction on contribution amount
  • Withdrawals are taxable

This is considered tax deferred


  • No tax deduction on the contribution amount
  • Withdrawals are not taxable

This is considered tax free


  • Amounts withdrawn are not added back to your contribution room 
  • Amounts withdrawn are added back to your contribution room


An RRSP is best used when you contribute in a high income tax bracket and withdraw in a low income tax bracket

If you need the tax deduction and can reasonably say your income will be lower when you withdraw, then an RRSP could work well in your investment plan.


If you contribute $10,000 in a year when your income tax bracket is high (50%), you defer paying $5000 in taxes that year.  When you withdraw at a low income tax bracket in retirement (30%) you pay $3000 in taxes.  The end result is by deferring the withdrawal until you are in a low tax bracket you save $2000 in taxes.  Multiply this by years of contributions and the effect can be significant.


Be careful though, this can also work to your disadvantage.  By contributing the same $10,000 when your income tax bracket is low (30%) you will defer paying $3000 in taxes that year.  However, if you withdraw at a higher tax bracket (50%), you will $5000 in taxes.  The end result is paying $2000 more in taxes. 


In a TFSA, the growth is tax-free rather than tax-deferred. 

True, there is no immediate tax write off, however you do not pay tax when you withdraw.   These two go hand in hand.  It offers greater flexibility to withdraw later, as you wish with no tax consequences.  Plus, the amount you withdraw is added back to your contribution limit for the next year.  You can repeatedly deposit and withdraw within your limits without trigging any tax consequences.


Some examples of Canadians who can benefit from using a TFSA include:

  • Young people starting at low income levels saving for either short or long term needs like a home, vacation or retirement
  • Business owners who reduce annual personal income and may retire in a higher tax bracket upon sale of business
  • Retirees looking to shelter investment income to avoid clawback from OAS. 
  • Someone temporarily in a low income tax bracket (Maternity leave).  They could use a TFSA for now and move to an RRSP when they are in need of a tax deferral.
  • High income Canadians with maximized RRSP looking to save additional funds outside their RRSP.  The TFSA can be maxed out annually before other non-registered investments are used.

To determine if you should contribute to an RRSP this year ask yourself:  Was my income tax bracket last calendar year more likely to be higher or lower than it will be when I plan to take the money out in retirement?  If the answer is higher, then the RRSP could fill your needs this year.  If the answer is lower, then you may want to consider a TFSA.


Similar to an RRSP, you can invest your TFSA in a wide range of qualified investments like investment funds, stocks, bonds, GIC’s or cash accounts.  The type of investment will depend on your investor profile and should be determined by you and your financial advisor.


This is a simplified approach to help with basic understanding, and it is important to note there may be other factors to consider specific to your personal situation.  Your financial advisor can help take a closer look at your overall financial plan to determine whether an RRSP, TFSA or combination is right for your personal situation.


Column originally appeared in Elgin This Month February 2011, updated in 2016

Related topics:

Not everyone needs an RSP.  We are each unique.

Tax Free Savings Account.  A great savings tool for young adults



Stephanie Farrow, B.A., CFP.,  Stephanie has over 20 years experience in the financial services industry, a diploma in Financial Planning from the Canadian Institute of Financial Planning, and Certified Financial Planner designation.  Stephanie has been writing a financial planning column for the local business magazine Elgin This Month since 2010. Stephanie and her husband Ken Farrow own Farrow Financial Services Inc.. Our Financial Services Team. 


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