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Thursday, January 12, 2012

TFSA or RRSP contribution? What work best for the Dividend Girl

I really wanted to post yesterday but I was busy and finally, I didn’t post anything. I find Susan Brunner last comment quite interesting. Instead of investing 7k in my RRSP account, Susan suggested to simply invest 5k in my TFSA. Fact is, in 30+ years from now, when I will withdraw cash from the RRSP, I will be paying income taxes on each and single withdraw. The more I invest money in my RRSP and the more I generate money in my RRSP, the more I will be paying taxes at the end. Is that being smart? No, not at all. Without Susan, I wouldn’t have been able to figure this all by myself.

TD Waterhouse – like probably all of the brokers we have out there – is extra extra cheap. TD Waterhouse commission fee is 9.99$ per buy and per sell operations. TD Waterhouse policy for TFSA regarding withdraws is extra extra mean-cheap: ONE ohhhhh ONE single withdraw ONLY per year is authorized. You can do more than one withdraw per year but you’ll have to pay big $$$ to do any subsequent withdraws. Just like if you didn’t work hard enough for your money. This is how TD CEO gets paid millions and millions EACH SINGLE year. While they make us pay the big fees, there’re some lazy bankers who are getting overpaid. That’s for sure. That one TFSA withdraw rule really suck. However, let’s check on this all over again ok.

Which one is a better safe net for your money? TFSA or RRSP?

As you know, I have a 7k I can invest for my 2011 RRSP contribution. Per year, an investor can invest 5k in the TFSA without penalties. You can also add to that 5k the amount of any withdraws made the year before. Let say you have withdraw 2k from your TFSA in 2011, for 2012, you are authorized to invest 2k + 5k.

A RRSP contribution provides a tax break. Any investment made inside a TFSA is free of tax, but it won’t give you a tax break, meaning it won’t reduce the amount you declared as an income.

RRSP and TFSA are 2 different things.

I didn’t work that much in 2011. From what I have estimated, I didn’t earn more than 35k or something like it. That’s really not that much. So do I really need the tax break that provides the RRSP contribution? While living in New Brunswick, I pay a lot less in taxes that if I would have still be living in the horrible Quebec province. Knowing that I will have, one day, taxes to pay on every single RRSP withdraws... at this point, you know, the RRSP, I don’t really care any more. This being because while being a senior, I will have to pay taxes on withdraw made from the RRSP. In 30+ years from now, the money invested in the RRSP will certainly grow. And the original amount invested + all of the profit made will be tax at each withdraw.

I haven’t invested in my TFSA in 2010. This means I can invest 10k in my TFSA in 2012. But it doesn’t mean that I will be investing 10k in my TFSA.

I didn’t maximize my TFSA for quite a while because I preferred to have a 6 figures portfolio in a non-registered account with a margin account incorporated in it and have it all BIG.


Anonymous said...

If you are trying to decide between putting money in an RRSP or TFSA, there is a good calculator here

Mike said...

Yes, remember, RRSP return is not savings or money back, its DEFERRING tax, which over time, the trend is, will be higher tax in the future.
Unless you plan to make little money and live with minimal yearly earnings, RRSPs work... otherwise, the OAC GIS and various clawbacks are the first downfall. i have done extensive scenario sheets.

Look how fast your 1.7 million! runs out to keep pace with living retired off the TFSA.
(and remember, contribution room increased 500$ increments based on inflation. be ready for 5500 for 2013.
The more money you try to make with RRSP, the more you fight it later, taxed harder, harder to spread withdrawls out over every year...

again, unless you plan to make little money (because that's everyone's goal in an rrsp - lol) they are not the ideal vehicle.

Look at the example above... look how much extra in TFSA funds still exist after exhausting all the RRSPs (which started out half a million higher).

In summary, ideal strategy is to use the TFSA as a EQUITY trading account, not a savings account.
MAX IT OUT... if you happen to have extra money, and ONLY THEN... is when you would contribute to RRSPs. Or, if employment does matching, kinda free money there.
To contribute to rrsp and no tfsa makes no sense.

Remember, tax DEFERRING... i would rather pay todays tax rate, than future tax rate. (and people usually say, but you withdrawl small amounts so your in a lower tax bracket...) well.. they missed the whole picture of trying to make any decent sized nest egg then. so they are planning on ending up with small amount. I dont care who you are, if you make $$, even spreading over 20 years, you WILL end up in a much higher tax bracket than you thought.

Like the blog btw.
Though missing the equity return values... Im sure yellow-pages hurt you for example. The div surely did not make up for the downward in the stock.

Mike said...


I would like to comment on a few things.

Interesting blog btw. I would like to point out that RRSP is not tax savings, but DEFERRING Tax, nothing more. You are avoiding paying todays tax rate for the tax rate in the future. (we all know trends show, this will be higher)

Here is a TFSA vs RRSP scenario.. I have run dozens with various incomes, RORs, etc.

Notice how, even with over half a million more, RRSP is exhausted over 20 years, and you still have over 500K left with TFSA. Notice assuming tax rates are the same (this is where TFSA shines). Notice this is with RIF RRSP timeframes, which could change at any moment by the gov. again, not good for RRSP.
Also notice, this does not include the inflation correction TFSA contribution room gets. Remember, 2013 will be 500 dollars more (5500) unless inflation dives to zero next month. another tick for the TFSA.

Here is a simple way to look at the two. If you plan to make little money, or none, RRSP is a better vehicle. If you make any decent money or want a large nest egg, no matter how you spread it evenly, you will not be in the bottom tax bracket. you WILL have claw backs from government programs.
Every time I ask someone, why are you tax deferring?, they simply say,"When I retire" I will not need as much money and I will be in a lower tax bracket"...
I simply say, "So you plan to not make much money". Usually yields a confused look.
You cant avoid the OAS, GIS clawbacks, and the more money you make, the more you fight it, and yes, taxes go up over time. For the amounts you live off of, the numbers show... tfsa wins almost every time.

It makes logical sense to use a TFSA as a trading account, not a savings. I am stumped why so many opt for the 1% savings for a TFSA when you could pick the MOST conservative stock out there, and get more out of your money.

Rules: with disposable Income to put towards retirement, one should MAX out their TFSA first! hands down. If you have more left, then and only then contribute to RRSP.

one exception is employment contribution matching. This is hand me down income. Only match what is required, then follow the above rule.

SPBrunner said...

What I suggest is if you have any investment money in a year, maximize your TFSA first, then for the remaining, split it between a Trading Account and an RRSP account.

The good thing about the TFSA is your money can grow tax free. With a Trading Account, if you have any earnings or want to sell any stock at a profit, you will pay tax. With the RRSP, it can grow tax free, but you will have lots of taxes to pay when you take it out.

The other thing with an RRSP if you have a year of little earnings, you can take money out at a low tax rate. You can use it like your own unemployment fund, or going back to school fund. (Or, even having a baby fund.)

Anonymous said...

Thanks Mike...AT LAST SOME INTELLIGENT COMMENT abt the common misconception with RRSP's. BRAVO!! You'll NEVER get those opinions from an investment adviser/seller. U will get them from many retirees. As for TFSA, the only one I know without service fees is ING Direct. Or they want a minimum balance in ur investment account (TD Waterhouse) 100K to offset the fee. Then there's issue of accessing the $ if u need it. Its been a while since I first looked into TFSA's, so maybe somethings changed, but at the time when they were launched I gained the opinion they weren't worth the headache for such a small contribution level.

DVDguy said...

One thing that makes me a bit nervous about TFSA is that is a new government program. If I am planning 30 years out... No one can certainly say that a future government will not change the program in some way... throwing off our current planning. Governments change.. policy changes (remember income trusts)..

Sunny said...

I don't think a new government could changed or removed the TFSA. Its here to stay.

DVDguy said...

"Although the drain of GIS money by well-off Canadians is modest now, Kesselman says, it will grow and a future government will likely have to change the rules to ensure those with fat TFSAs are denied the poverty supplement.

"Common sense tells us that at some point in the future, government will change the policy," he said in an interview."

Anonymous said...

If the rules change in the future, only then should investors make the appropriate changes. Right now, investors should take advantage of the TFSA to earn money tax free.

DVDguy said...

"Ottawa plans pension changes"

"If the rules change in the future, only then should investors make the appropriate changes". My Point is a simple one: If you use TFSA rules as they are today to plan what happens 20/30 years from now... that could be a mistake.

"I don't think a new government could changed or removed the TFSA. Its here to stay."

Forever is a long time. This will change, plan for it!

Anonymous said...

The change to the pension is increasing the age for old age to 67. We where warned long ago that our pension plan couldn't sustain the aging population in it's current form.

When planning for retirement, you need to be aware that certain service might not be available when you retire and should save more.

Whether the TFSA is discontinued in 5 10 or 20 years from now doesn't change any thing for me. I enjoy earning money tax free and if I have to pay tax on it in the future, I will. Just like if you invest in RRSP, you will have to pay tax later when you make withdrawals.

Why would anyone have to plan for change to the TFSA is beyond me.
What benefit will you gain by not using the TFSA because you fear it won't be available in the future.


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