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The federal government has established two valuable programs to help
Canadians save for their retirement. Theres the long-established
Registered Retirement Savings Plan (RRSP) and the more recently
introduced Tax-Free Savings Account (TFSA).
With the TFSA, any growth on your investment is taxed. In contrast, when
you make an RRSP contribution, your taxable income for that year is
lowered by the amount you contributed. In other words, you will pay less
income tax that year compared to what you would have paid had you not
made the RRSP contribution. However, when you take that money out of
your RRSP at a future date, the amount becomes taxable at that time.
With the 2009 RRSP contribution deadline approaching and the start of
a new year ushering in the opportunity to put new money into a TFSA
many investors are wondering which program should take precedence as a
vehicle for housing their retirement savings.
From a tax-advantaged standpoint,* a key consideration involves tax
rates at contribution and at withdrawal. If the two rates are identical,
the TFSA and the RRSP are equally effective alternatives for saving on
tax. If your tax rate at the time of withdrawal will be lower than at
the time of contribution, the RRSP comes out ahead. If your tax rate at
the time of withdrawal will be higher than at the time of contribution,
the advantage goes to the TFSA. Because most Canadians can expect to
experience a lower tax rate during their retirement compared to their
working years, the RRSP is probably the preferred savings option for the
majority of investors.
Of course, we all have different circumstances that shape our investment
decisions, and there are many other factors to consider, including some
additional differences between the RRSP and TFSA. Of note:
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The RRSP carries a maximum age restriction for contributions, while
the TFSA does not.
You can re-use contribution room in subsequent years after funds are
withdrawn from the TFSA. You cannot do this with the RRSP.
A maximum of $5,000 per year can be contributed to a TFSA. Annual RRSP
contribution maximums are generally larger than that. For the 2009 tax
year, your RRSP contribution can be as high as $20,000, or 18% of your
earned income as reported on your 2008 tax return (whichever is less).
Unlike with the RRSP, income earned in or withdrawals made from a TFSA
do not affect your eligibility for federal tax credits or income-tested
benefits such as the Canada Child Tax Benefit, Old Age Security (OAS) or
the Guaranteed Income Supplement (GIS).
Given all of the considerations and the uniqueness of your situation
speak with your financial advisor to determine which RRSP and TFSA
strategies make the most sense for you.
Jim Scott, Edward Jones, Member CIPF
* Edward Jones does not provide tax or legal advice. Review your specific
situation with your tax advisor and/or legal professional for information
regarding, or issues concerning, the tax implications of making a particular
investment or taking any other action.
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