If you’re looking for tax-free and tax deferred ways to save for the future, you have probably considered a Tax-Free Savings Account (TFSA) or Registered Retirement Savings Plan (RRSP). It can be challenging to navigate which of these is right for you and the RaeLipskie Partnership wants to help you find the best fit for your financial needs.
What is a TFSA?
A Tax-Free Savings Account is a registered account that is tax-sheltered, meaning you don’t have to pay tax on any funds within the account. A TFSA can hold both money and investments, such as stocks, mutual funds and more. Since there is no tax on the interest accrued in a TFSA this is a great option for growing your money. There are also no fees or taxes to pay when you withdraw from your TFSA.
What is an RRSP?
A Registered Retirement Savings Plan also has tax incentives. It is a tax-advantage account which means that specific tax breaks are offered to those who contribute to RRSPs to save for retirement. However, unlike a TFSA that is completely tax-free, an RRSP is not taxed on the year you make the deposit, but will be taxed when you eventually withdraw the money. When you turn 71, your TFSA will automatically turn into a Retirement Income Fund and you must withdraw from the account yearly once you’re 72.
TFSA Contribution Limit
The contribution limit for a TFSA is $6,000 each year. However, your unused contribution room from prior years is accumulative and any money withdrawn from your TFSA the previous year is also added to your contribution limit.
So, even if you’ve never opened a TFSA, you can still contribute the total amount allotted for each previous year since you turned 18.
The previous contribution limits are as follows:
- $5,000 for each year from 2009 to 2012,
- $5,500 for 2013 and 2014,
- $10,000 for 2015,
- $5,500 for 2016, 2017 and 2018
- $6,000 for each year from 2019 to 2022
For example, let’s say you turned 18 in 2013, and open a TFSA this summer (2022). This means your total contribution room would be $61,500.
You can read more about the TFSA contribution limit from the Canada Revenue Agency here.
RRSP Deduction Limit
The deduction limit for an RRSP is the maximum amount you can add to that account in a given year. This limit is unique to you and for 2022 it is 18% of your 2021 earned income or $29,210 – whichever is less. Your RRSP contributions for a year also go 60 days into the new year, meaning an RRSP contribution year begins and ends in March.
You can read more about the RRSP deduction limit from the Canada Revenue Agency here.
The Benefits of TFSAs
- You do not have to have earned income to contribute to a TFSA
- Any gains made are tax-free for life
- Very few withdrawal rules – you can withdraw at any time without penalty
- You can re-contribute whatever you take out one year in the following year
The Benefits of RRSPs
- You can deduct whatever contributions you make in a year from that year’s total income
- Any money contributed is exempt from income taxes that year
- You don’t pay tax on any investment earnings as long as they are in your RRSP
- When you retire, your RRSP savings can be converted into a Retirement Income Fund or an annuity tax-free
- You will still pay tax on the regular payments you receive, but if you’re in a lower tax bracket after retirement, this will ultimately lead to paying less tax
How to Choose Between TFSAs and RRSPs
The main factor to consider when choosing between a TFSA and an RRSP is your income.
If you make over $50,000 a year you may lean towards an RRSP. This is because you get to deduct whatever money you put into your RRSP from your income. Moreover, when you ultimately withdraw the money from your RRSP after you’ve retired, you’ll be in a lower tax bracket and pay less tax on that money. Also, since your RRSP contribution limit is based on your income, a higher income means that you’ll be able to contribute more to your RRSP each year, thus getting a higher yearly tax deduction.
If you make under $50,000 a year, a TFSA may be a better fit for you since it isn’t reliant on your income. The contribution limit for a TFSA stays the same regardless of how much money you make in a year. TFSA’s don’t have limitations, expiry dates or taxes to pay on withdrawals. This offers a variety of options for the money in your TFSA and gives you a lot of freedom as the account holder.
Whether you should open a TFSA or RRSP depends on your personal financial situation. If you have further questions or need help deciding how to proceed with your finances, the RaeLipskie Partnership is here to help. Reach out to us today to connect with a portfolio manager: https://raelipskie.com/contact/
Interested in learning more about another type of investment? Find out everything you need to know about RESP’s here.