In 2009 the CRA introduced the Tax-Free Savings Account to encourage Canadians to save. It really is a nice perk that allows a tax payer to shelter gains from taxes on investments held within the account. As of 2014 the total contribution limit to the TFSA is $31,000. The dilemma for many Canadians is how to use their TFSA’s in conjunction with the Retirement Savings Plan to minimize taxes.

Each Canadian will have to do a few quick calculations to determine which choice is best for them (you didn’t really think I was going to do all the work for you?). No worries, we’ll try to simplify this as much as possible.

The main difference between the TFSA and the RSP is timing on when the Taxman (CRA) takes his piece, which he always inevitably does. Under the TFSA you are taxed BEFORE you put money into your account.

A Detailed Comparison

For example, if you have a $50,000 salary using a 20% income tax rate you would have $40,000 after-tax. You could invest up to $31,000 of your $40,000 after-tax income to your TFSA assuming you had never made a prior contribution. Any future realized/unrealized gains, dividends or interest on the $31,000 investment will never be subject to tax…ever.

Using the RSP let’s look at a similar scenario with a $50,000 salary and a $31,000 contribution to your RSP. The Taxman will reduce your taxable salary to $19,000 ($50,000 – $31,000) on which you will pay about $2,000 worth of tax. When you take money out of your RSP down the road the Taxman will hit you up for whatever amounts you take out. As you can see in the first year the difference in tax is $8,000 ($10,000 TFSA vs $2,000 RSP) and the winner is RSP, however, you need to consider what your income will look like when you make a withdrawal from your RSP to determine a clear winner.

Using the current example year one under the TFSA and RSP would look as follows:

Year 1 Income$50,000$50,000$0
Year 1 RSP Deduction$0($31,000)$31,000
Taxable Income$50,000$19,000$31,000
Tax Rate20%10.5%9.5%
Income Tax$10,000$2,000$8,000

Now let’s assume 20 years down the road that you have retired and that $31,000 investment has grown to $82,000 via fair market gains and reinvested dividends. Also assume that you have $20,000 of pension income that you receive each year in retirement.


Pension Income$20,000$20,000$0
Sale of Investment$82,000$82,000$0
Total Income$102,000$102,000$0
Taxable Income$20,000$102,000($80,000)
Tax Rate10.5%27.5%(17%)
Income Tax$2,100$28,000($25,900)

There is no taxable income effect for the sale of the investment under the TFSA while using the RSP would trigger an additional $82,000 of taxable income in the year when you make a withdrawal of the funds.

To summarize under the RSP option you would pay approximately $30,000 in tax versus under the TFSA you would pay only $12,100 in tax. This is a simplified example that assumes you take the entire hit of your investments in one year. The lesson is that you need to determine the optimal TFSA and RSP allocation appropriate for you using some short-term and long-term assumptions. An accountant should be able to help determine which approach may be best for you, which may save you thousands in the long run.

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