We get this question all the time, which is a better option to contribute to your RRSP or TFSA? The answer depends a few factors. Understanding the elements of both accounts and the benefits of each is a good starting point. Before I go into the details of each account, it is important to first understand what you are investing in, this is more important than taking advantage of tax savings.
Understand what you are investing in before contributing
Have a clear understanding of what types of investment products you will be invested in, the industries, companies, and asset classes as well. You will want to understand the market risk, return, and overall plan in place before investing.
When you contribute to this account, the benefits include a tax deduction on your income in the year of contribution. This is beneficial since you are reducing your current income taxes and deferring taxes until you withdrawal from your RRSP ( generally in retirement when your income levels are lower), thus in concept this makes sense to maximize this investment account should you be planning on withdrawing the funds when you can guarantee your income levels are a lot lower in retirement. Your yearly contribution room is based on a calculation which factors in your earned income for the year and a rate is applied of 18%. Also, after you file your annual tax return and receive a notice of assessment, CRA also calculates your contribute limit for you. The limit is 18% of your earned income or $24,940 ( 2015). Any un-used contribution room carries forward. You can also transfer your contribution room between spouses by opening up a joint spousal RRSP.
The tax free savings account is an investment account for which any income generated ( interest, dividends, or capital gains), when realized are tax free within the account. Therefore, you are investing after tax dollars and investing in this account to tax advantage of the non-free benefit. Please note, any contributions into this account are NOT tax deductible like the RRSP. TFSAs have contribution limits, which are as follows:
2009-2012: $5,000 per year
2013-2014: $5,500 per year
The contribution room was increased to $10,000 in 2015, however in 2016 the limit has been brought back down to $5,500.
If you would like to discuss the different investment products available, learn more about the different asset classes, returns and risk associated with each and would like to further discuss the tax implications as well please contact us at 416-214-0527 or visit www.mpgroupcpa.com.