Do you know the difference between a Tax-Free Savings Account (TFSA) and a Registered Retirement Savings Plan (RRSP)? Don’t be embarrassed if you don’t know the answer. More than a quarter of Canadians (27%) are unable to explain the difference between the two accounts.1
While RRSPs and TFSAs share similarities, it’s important to understand how these accounts work and when to use one over another.
Turbocharge your savings
As the name implies, an RRSP is typically reserved for retirement savings (click here for more details). If you are looking for a way to grow your savings tax-free, but would like more flexibility to access your money, consider a TFSA.
Like an RRSP, a TFSA allows you to invest in a wide variety of products, including stocks, bonds, mutual funds, exchange-traded funds and GICs. By growing your savings within a TFSA, you may reach your savings target faster since you won’t pay tax on your investment gains.
The right mix of investments will depend on your goals. A TFSA can be a great way to save for shorter-term goals, such as a home reno, a new car or building your “rainy day” fund. Before deciding on which investments to hold in a TFSA, consider your time horizon and savings goal, among other factors.
Saving for retirement
If you’re in your peak earning years, an RRSP may be a better long-term retirement vehicle compared to a TFSA. You can deduct RRSP contributions from your income to lower your tax bill, something you can’t do with a TFSA. An RRSP also helps you save by deferring taxes into the future to when you’re retired, at which point you’ll likely be in a lower income tax bracket.
Although RRSPs offer a good way to save for retirement, TFSAs can play a role, too. A TFSA can provide a tax-free way to supplement your income in retirement, which can be useful if you’ve reached your RRSP contribution limit or have a reliable defined benefit pension plan through your employer. If you’re not sure which account to use, you can always transfer money from a TFSA to an RRSP at a later date, without tax consequences.
Key TFSA features
- Can be used to fund any goal
- For the 2020 tax year, the contribution limit is $6,000; the total cumulative contribution room rises to $69,500 for those who have never contributed and have been eligible for the TFSA since its introduction in 2009.
- Contributions are not tax-deductible
- Investments benefit from tax-free growth, with no tax on withdrawals
This year, resolve to save
TFSAs and RRSPs are both attractive for savers and offer significant benefits in helping you reach your financial goals. As you can see, there are situations when one plan type may be more appropriate than the other. If you’re still unsure about the best approach for your situation and want to learn more about how to optimize your savings strategy in 2020, contact one of our Investment Advisors today.
iA Securities is a trademark and business name under which Industrial Alliance Securities Inc. operates. Industrial Alliance Securities Inc. is a member of the Canadian Investor Protection Fund and the Investment Industry Regulatory Organization of Canada.