Most of us are always saving for something.
From a down payment on a home or that dream vacation you've been wanting to, ultimately, the golden years of retirement, there are competing demands on the dollars we earmark for savings. With so many savings products available, it's sometimes difficult to know the best product to use to reach the various savings goals that we may have.
That's why we're taking a closer look at Registered Retirement Savings Plans (RRSP) and Tax Free Savings Accounts (TFSA).
What's the difference between an RRSP and a TFSA?
RRSPs and TFSAs each offer a tax benefit while allowing the contributor to choose between a number of different investments with various risk profiles - the tax benefit offered, however, is different.
RRSPs allow contributors to deduct the amount of a contribution from their taxable income through their personal tax return. The amount sheltered or contributed becomes taxable when withdrawn from the RRSP. This, in effect, allows the contributor to defer taxes to a later date.
TFSAs do not generate a tax deduction at the time the contribution is made and, since the contribution is made from after-tax dollars, any withdrawals from the TFSA - including any investment growth - are completed on a tax-free basis.
Both have contribution limits. RRSP contribution limits are based on your earned income while the TFSA limits are the same for everyone - as long as you are at least 18 years of age and a Canadian resident.
In both cases, you can carry forward any contribution room that is not used each year.
How do you decide which product is right for you?
What is most important to you: a tax deduction right now to lower your current income tax liability, knowing the tax will be payable at a later date, or the ability to make withdrawals on a tax-free basis?
If your savings goal is short-term - a vacation or a home renovation - a TFSA may be the better option given that you can withdraw the amount on a tax-free basis. The TFSA also allows you to œre-contribute any amount you have withdrawn - essentially, giving you the contribution room back.
This is not the case with an RRSP.
RRSPs are often the retirement savings vehicle of choice given that they provide a tax deduction at a time when most contributors are working, and therefore in a higher tax bracket, while withdrawals are taxed in retirement, when most are in a lower tax bracket.
While we could all likely benefit from either an RRSP or TFSA, consider these factors when determining what's right for you:
| RRSP | TFSA | |
| I want to deduct my contribution from current taxable income | X | |
| I am saving for my winter all inclusive vacation | X | |
| I want to be able to withdraw money without being taxed | X | |
| I am saving for an emergency fund | X | |
| I am primarily saving for retirement | X | X |
Speak with your financial planner to see what makes sense based on your financial goals.