Consider the Enduring Value of RRSPs and TFSAs in Retirement

Every January, we see reminders to invest in a Registered Retirement Savings Plan (RRSP) or Tax-Free Savings Account (TFSA). As you get closer to retirement, you might wonder: “Does investing in an RRSP or a TFSA still make sense?” Like many questions about personal finance, the answer depends on your situation and your goals. Let’s take a look at how you could benefit from either or both of these tools to optimize your retirement and support the lifestyle you want.

RRSP

RRSPs serve as a long-term savings account specifically designed for retirement. Contributions to an RRSP are tax-deductible, meaning the money you put into the account reduces your taxable income for that year. This tax deferral allows your investments to grow tax-free until withdrawal during retirement. The benefit of investing in an RRSP is greatest when your current tax bracket is higher than it will be in retirement. Toward the end of your working years, you typically produce a higher income as compared to when you are retired. That means the tax reduction from an RRSP contribution should be greater than the tax paid on a withdrawal in retirement. If your income is likely to be the same in retirement as it is now, a TFSA might be a better choice.

Tips for RRSPs:

1. Tax Deduction: Contributions are tax-deductible, reducing your tax bill and often resulting in a refund.
2. Tax Refund: Plan ahead to use the refund for your financial benefit, such as contributing it to your TFSA or pre-paying your mortgage.
3. Spousal Contribution: You can contribute to your spouse’s RRSP to use the tax deduction yourself, while building up their investment account.

TFSA

Despite the name, TFSAs are more than just savings accounts and can hold all the same investments as RRSPs. Unlike RRSPs, TFSA contributions are made with after-tax income (no tax deduction), but any investment gains, dividends, or interest earned within the account are tax-free. Withdrawals are also tax-free, meaning the TFSA could reduce your lifetime taxes compared to an RRSP. If your current income tax rate is relatively low or if you foresee needing flexibility in accessing your savings without tax implications, TFSAs are an excellent choice. They can also benefit you after you have maximized your RRSP contributions. There is no maximum age for TFSA contributions, so they are still useful while you are enjoying your retirement.

Tips for TFSAs:

1. Tax-Free Income: Withdrawals from a TFSA are not subject to taxation, so they can be coordinated with RRIF income to manage your annual tax bill.
2. No Maximum Age: Some investors don’t need to spend their RRSP withdrawals, so they use the net minimum payment and invest it in their TFSA for tax-free growth.
3. No Impact on Government Benefits: Withdrawals don't affect eligibility for government benefits or credits.

Choosing Between RRSPs and TFSAs

For many, a blend of both RRSPs and TFSAs can optimize tax advantages and flexibility for future income needs. If you are in your highest-income-earning years, it might be best to contribute to an RRSP, then invest the tax refund in your TFSA. If a tax deduction is less important to you, you might maximize your TFSA contributions, then invest in the RRSP thereafter. If you are retired, have converted your RRSP to a Registered Retirement Income Fund (RRIF) and are drawing income, investing a portion in a TFSA could reduce your lifetime tax bill and provide more flexibility later.

RRSPs and TFSAs each offer unique advantages in helping you build wealth and plan for your financial future. Understanding the features of each and aligning them with your personal financial goals can help you prepare for a lifetime of efficient income in retirement.

On our website, you can find more articles about financial planning and other financial topics. If you have questions about this article or would like a conversation about how these ideas apply to your unique situation, call us at 403-290-0940.