TFSA and RRSP: Collaborative Investing is Key

In deciding which of the two tax preferred investment vehicles should be used for various lifecycle purposes – the TFSA or the RRSP - advisors and their clients should carefully consider all the advantages of investing in and withdrawing from each vehicle.

From an accumulation point of view, it of course makes sense to cash in on the immediate tax savings offered by the RRSP investment, for age eligible, taxable investors in most cases, and then to invest those tax savings into the TFSA.   But a deeper look at the reasons why the two vehicles work well together for purposeful withdrawals, round out my “Top Ten Reasons” why the TFSA rocks:

Reason 6 - Homebuyers:  TFSA or HBP? In the market to buy a first home? Consider whether it makes more sense to withdraw funds on a tax-free basis from within an RRSP to fund a new home purchase under the Home Buyers' Plan, or to save the required funds in a TFSA instead and withdraw them from there when needed. There are no tax penalties for failure to pay back the funds to the TFSA (as there are with the RRSP), and withdrawals automatically create new TFSA contribution room, so our vote would be to accumulate money in the TFSA savings vehicle for the purposes of saving for a home  instead of tapping into the RRSP.

Reason 7 – Later-Life Students:  TFSA or LLP? The source of education savings should now be revisited as well, for similar reasons. Saving within the TFSA allows you to accumulate funds on a tax-deferred basis and then withdraw them without penalty or a requirement to repay the funds. This is not so under the Lifelong Learning Plan, which allows for a tax-free withdrawal from the RRSP but requires an annual repayment schedule. The avoidance of income inclusion penalties therefore makes the TFSA a more attractive withdrawal vehicle for later life students. Better to leave the funds in the RRSP for tax-deferred retirement savings.

Reason 8 –Education Savings for Minors:  TFSA or RESP?   Despite giving up Canada Education Savings Plan Grants and Bonds, the TFSA may appear to be a better savings vehicle for education purposes than the RESP.  The latter could eventually attract a significant tax penalty on withdrawal if intended recipients do not end up going to school.  Do the projection math to better understand how to manage this risk.

Reason 9 – Bolster Tax-Assisted Pension Contribution Limitations: Those who have contributed the maximum to an RRSP—18% of last year's earned income to this year’s specific dollar maximum—and want to do more to supplement their savings on a tax-assisted basis, can now do so using an enhanced TSFA contribution maximum. This is particularly important for those who don’t have an employer-sponsored pension plan or the self employed.

Reason 10 - Supplementing Executive Pension Funding:    Contributors to employer pension plans are often precluded from making RRSP contributions because of their pension adjustment amount. The TFSA now gives these people the opportunity to tap into another tax-preferred savings opportunity.  This is particularly important also for executives who earn more than the annual dollar maximum. The TFSA provides a small window of opportunity to shore that tax assistance up. This option should be used first and then in conjunction with planning for funding of top-hat plans like Individual Pension Plans or Retirement Compensation Arrangements.

Evelyn Jacks is President of Knowledge Bureau and author of 51 books on personal tax and wealth management planning.  Follow her on twitter @evelynjacks.