Tax-Free Savings Accounts (TFSAs) and Registered Retirement Savings Plans (RRSPs) are two of the most beneficial types of accounts that you can have to save for the future. But how do they compare and when should you use one over the over?
A TFSA is a government-registered account that allows you to set aside money throughout your lifetime for your savings goals, without paying any tax on the interest or investment income earned on those savings. You can withdraw money from a TFSA tax-free at any time and spend those funds on anything — a wedding, vacation, new home, new car, etc. — or you can let your savings and investments compound tax-free to help fund your retirement.
You must be at least 18 years old and have a valid social insurance number (SIN) to open a TFSA. As the name implies, TFSA withdrawals are tax-free, however, contributions are not tax-deductible.
An RRSP is a government-registered account that allows you to save for your retirement. RRSPs are tax-deferred accounts, which means you do not pay income taxes on your contributions or the earnings they generate while they are sheltered inside the account. You do, however, need to pay taxes later when you withdraw the money. There are limitations as to how much you can contribute each year, but there is no minimum age requirement to open an RRSP.
Anyone who works and pays taxes is eligible to open an RRSP in their name and the contributions are tax-deductible.
Sometimes TFSAs and RRSPs can be confusing. Both can be used for retirement and, thanks to government programs like the Home Buyer’s Plan and Lifelong Learning Plan, RRSPs can often be used to help pay for a new home and education as well.
Here’s a breakdown of the main similarities and differences between an RRSP vs. TFSA to better understand how each type of account works.
The main purpose of an RRSP is to save for retirement. A TFSA, on the other hand, can be used for anything you want.
In order to open a TFSA, you need to be at least 18 years old. To open an RRSP you can be any age; the condition here is that you must be earning an income and pay taxes.
Both TFSAs and RRSPs have contribution limits.
For an RRSP, the limit is 18% of your earned income from the previous year (up to a maximum set by the CRA each year), plus any unused contributions from past years.
For a TFSA, there is a set annual contribution limit — in 2021 it was $6,00 — that is added to any unused contributions you have leftover from previous years.
If you are unable to max out your contributions for either your TFSA or your RRSP, that’s OK. In both cases, the room will be carried forward. The difference comes when you withdraw the money.
When you withdraw from your TFSA, you get that contribution room back the following year.
However, once you withdraw from your RRSP, you lose that contribution room and the potential for compound growth that comes with it. This is partly why it’s best not to withdraw from your RRSP until retirement.
Both types of accounts shelter interest and investment income from tax. RRSPs are also tax-deductible, which means that any contributions you make can help reduce the amount of tax you pay annually on your income. TFSAs are not tax-deductible. The tradeoff, however, is that withdrawals from a TFSA are tax-free, while withdrawals from an RRSP are taxable at your annual marginal tax rate.
You can use and contribute to an RRSP up until December 31st of the year in which you turn 71. After this point, you need to convert your account to a Registered Retirement Income Fund (RRIF), an annuity, or withdraw the entire amount in a lump sum.
TFSAs have no time limits; you can use them as long as you like.
The type of account you choose will depend on your savings goals. RRSPs are meant to save for retirement. So, if your goals are something else, such as a dream vacation, a home, or even just a nest egg should something come up, then a TFSA is the best way to go.
If your goal is retirement, then an RRSP is a smart choice. However, a TFSA can also be used as a retirement vehicle. It really depends on your specific goals, income, and lifestyle.
Those who make a decent income now and expect to have less income during retirement can benefit from the tax deferral provided by an RRSP since they will likely be in a lower tax bracket when they withdraw the money.
However, if your income is unstable and you prefer to keep it liquid, using a TFSA might be a better idea in case you need to withdraw some of the funds early.
If you aren’t sure, it might be worth your time to speak to a professional to discuss the best course of action for you.
Absolutely! You can and probably should have both.
Yes, although it does make it more challenging to keep track of your finances. You need to make sure that the total accumulated amount between accounts stays within your limits.
For example, you can’t contribute the maximum annual amount to each TFSA account, it’s the maximum amount total. But, at the end of the day, you can have multiple accounts with multiple financial institutions.
Again, this depends on your goals. However, if you are looking toward retirement then consider your income and tax bracket. Those who make more than $50,000 will benefit more than lower-income earners from the tax deduction that comes with an RRSP, so that is worth keeping in mind.
Hannah Logan is a writer and blogger who specializes in personal finance and travel. You can follow her personal travel blog EatSleepBreatheTravel.com or find her on Instagram @hannahlogan21.