We are in the middle of the RRSP season and I am pretty sure that your financial advisor already called you for your contribution. You don’t have the money to contribute to your RRSP this year? Since it’s very important to prepare for your retirement and we take your financial situation to heart, we are going to offer you an RRSP loan. I Call BS on this one!

Why taking out an RRSP loan is bad for you

There is actually one specific strategy where the RRSP loan is good: when you are about to buy a property. I’ll cover that later on. But for now, get this straight in your mind: RRSP loans are only good for the bank, NOT YOU!

Why? Fundamental mathematics will show you why J

Let’s say you take out a $10,000 RRSP loan with an amortization of 5 years. For the sake of calculation, let’s assume your RRSP loan is at a very good rate of 6.5% for 5 years (fixed rate). If you pay monthly, your RRSP loan payment will equal to $195.66.

If you invest this money and make a 6% yield, you will have $13,382 in your investment account after 5 years. However, if you setup a periodic investment of $195.66 per month during 5 years and make the same 6%… you will end-up with $13,651. I agree that this is not a huge difference, but if you take out an RRSP loan every 5 years instead of investing regularly during the next 25 years, then you get:

RRSP loan every 5 years: $130,246

Periodic investment: $135,591

There is more about the RRSP loan:

If you take out a 10K RRSP loan, you will invest this money in one shot. Over the long run, it won’t make a big difference but you might bit your nails at first if you start investing right before a crash. Just think of people who did this strategy back in 2008! If you make preauthorized investments, you will be able to average the cost of your investments which will smooth out any dip in the market.

The last point is the amount of RRSP contribution vs your marginal tax rate. If you are right over a tax bracket and take a big loan of 10K, you will get a smaller tax return than if you add your 5 years of smaller contributions. You must take a look at your marginal tax rate to know if this advice is good for you or not.

RRSP loans can be good if…

If you plan to buy your first house this summer and you are thinking of using the HBP.  You can take an RRSP loan, get a bigger tax return and withdraw your investment to pay off your loan under the HBP. Then, you won’t have an RRSP loan anymore but you will have benefitted from a tax return to boost your cash down. This could be an interesting strategy (just remember that you must keep your investment within the RRSP account for at least 90 days before withdrawing them under the HBP!).

If you take an RRSP loan over a short period of time (12 to 24 months), then it will be worth it. Chances are that the interest paid on the loan will be minimal and if you are lucky enough, you will benefit from a gain on the stock market.

You want a clear answer on RRSP loans? Ask your advisor!

If after reading this column you are confused about whether or not you should take a RRSP loan, ask your financial advisor to make both calculations:

A)    What is going to happen to my investment over the next X years if I take a loan?

B)     How much would I get if I take the payment loan amount and invest on a monthly basis with it?

Remember, people may lie… numbers don’t

Image credit

How much to contribute to your RRSP?

Before meeting with your financial advisor, get your paperwork in order. Check the following items before making your RRSP contributions:

-         Your 2008 Notice of Assessment will tell you how much you can contribute (18% of your declared income minus any pension plan adjustment)

-         Calculate if you are already on a systematic investment plan to contribute to your RRSP

-         You are allowed to go $2,000 over your maximum RRSP contribution limit. However, since you won’t get a tax return for this extra 2K, don’t use it… it’s useless!

-         Consider your marginal tax rate (you can use the Free RRSP tax return calculator in this article). This will help you determine your tax return according to your RRSP contribution.
 
 

Which product to choose for your RRSP?

When meeting with your financial advisor, he will obviously direct you towards one product or another. Here’s how it should be done if you want to make a good investment decision for your RRSP contribution:
 
 
#1 Revise your investor profile: You should complete or review an investor profile questionnaire. This is the very first step to determine which investment solutions are the best for you.
 
 
#2 Ask for at least 2 options: In order to be able to compare and understand what you are investing in, ask your financial advisor for 2 investment options for your RRSP. Ask him to compare both and to tell you which one he prefers and why. By looking at comparables, you will be in a better position to know what you are doing. Don’t forget to ask him if he gets a bigger monetary compensation for one product or another. Hint: he has to tell you so, if he tries to deviate from your questions, remind him that he has to provide you with a clear answer (he doesn’t have to tell you how much he makes, but he must declare if he is in a position with a conflict of interest).
 
 
#3 Don’t forget to talk about fees: It is one thing to do a last minute RRSP contribution, it’s another to get creamed by high management fees or redemption fees. Ask how much the product costs and why those fees are applied to the specific investment products. It is important to know if there is a fee to open the account, to make transactions (buying or selling) or if its management fees are based on a percentage of the amount invested.
 
 
#4 Ask for your RRSP contribution receipt: While you won’t receive your official RRSP contribution slip on the spot, ask for a copy of the document you have signed and when you can expect to receive your RRSP contribution receipt by mail. You must include it in your Tax declaration in order to receive your tax return.
 
 
#5 Don’t forget your HBP reimbursement: Making an RRSP contribution isn’t automatically applied to the reimbursement of your Home Buyer’s Plan. So if you must reimburse a part of your RRSP withdrawal this year, remember that this amount won’t generate a tax return. So if you are already calculating your tax return, review your calculation according to the amount reimbursed.
 
 
That’s it! You are set to make your RRSP contribution within the next 5 minutes . However, if you can’t get a hold of your financial advisor for a good 45 minutes, you are better off making a temporary RRSP contribution (just to get your RRSP slip) and revise your investment strategy in March. Make sure to book a second appointment in March right away though!
 
 

Last minute RRSP questions?

If you have last minute RRSP questions, please comment below and I’ll answer them as fast as I can !

We are nearing the end of the RRSP rumble and you only have 2 weeks left to make your RRSP contribution for the 2009 tax year. But before you run like a crazy horse to the bank and ask for their best rate on a 5 year certificate of deposit, let me give you a few tips to investing inside your RRSP:

#1 Take your time before making your RRSP contribution

It is true that you only have 2 weeks left and most financial advisors will be pretty busy during this rush. However, if you don’t have much time to give to your retirement planning, you won’t have much money with which to retire when you are 65! In the worst case scenario, call your banker and ask for an RRSP contribution that is not “locked”. He will deposit your money in an “RRSP cash account” that you will need to invest wisely later on, in the meantime you can get your tax receipt for 2009 right away. However, during the same phone call, I strongly suggest you schedule an appointment in March. You don’t want this money to stay in limbo forever!

#2 Find a good financial advisor

Since I have already produced a series on how to find a good financial advisor, I’ll let you read it (start with part 1 here). It is very important to deal with someone you trust and that is available.

#3 Understand what you are investing in

Famous investor Warren Buffett once said that he doesn’t invest money in something he doesn’t understand (techno’s during it’s bubble, ABCP, etc ). Well you should do the very same thing! Ask how your money will be managed, how much you will pay in fees, if there are transaction fees and how you can read your investment returns. If your financial advisor sounds evasive, leave him or change the product but don’t waste your time

#4 Make sure to consider your asset allocation

Some people have the bad habit of pickings funds here and there according to their mood. Do you know that 90% of your investment yield is correlated to your asset allocation and not to market timing or the selection of investment products? Make sure that your asset allocation covers several asset classes and that it is linked to your investor profile.

#5 Be careful about the flavour of the month

Then again, if you don’t ask questions and you don’t look at your asset allocation, you may fall into the flavour of the month. Some products will be “pushed” by some financial advisors. They may be good for you, they may not be. Therefore, ask how this investment product fits within your retirement plan?

#6 Don’t concentrate your assets into one industry

It is always tempting to follow the herd and invest in the “hot industry” of the moment. Some people are very attracted to Canadian banks or to commodities (gold, oil, etc.). I am not say that you shouldn’t have financials or commodities in your RRSPs, but I seriously think that you should consider your asset allocation first!

#7 But don’t over diversify

If you have 100K or more, don’t bother having more than 5-7 funds. Over this amount of funds, you are over diversified or you are just paying MERs for nothing. If you have a small amount to invest (a few thousand), your best bet is to take a package of mutual funds since they are balanced according to your investor profile and you don’t have to mess around with 10 mutual funds. Too much diversification is called diworsification

#8 Look out for currency fluctuations

I think you should not invest the equity portion exclusively into the Canadian market. It would be a great idea to look at the US and global markets. However, if you do so, ask if your investments will be hedged against currency fluctuations. For example, someone who invested in US dollars from 2003 to 2007 didn’t make much once converted into CDN dollars. While the US market jumped by more than 30%, our dollar also jumped with the very same proportion compared to the US dollar. What you made with the right hand, you lost it with the left one.

#9 Remember the ghost of inflation

You can’t stand the market anymore and you are only looking for secured investments in your RRSP? This is fine but be careful of locking your money for a 5 years term at 3%. If inflation comes back (and it will!), you will get hit by a train and you won’t make money for 5 years. If you go with bonds and certificates of deposit, you are better off with a bond ladder to mitigate your interest rate risk.

image source: ansik

The Reason why RRSPs exist

No, this wasn’t an evil invention by mutual funds’ companies or Canadian banks . The Government created the RRSP to give everyone the chance to build a comfortable retirement. An RRSP account allows investments to grow tax free while reducing your tax exposure according to the RRSP contribution of the individual. At retirement, when your marginal tax rate could be at its lowest, RRSP withdrawals become taxable.

RRSP and risk

Some say that you should put all your fixed income into your RRSP for tax optimization. Some other say that since you have several years before your first withdrawals, you should invest in an aggressive portfolio and let the stock markets work its magic. I’d say that you should always consider your investor profile and invest according the asset allocation you have chosen.

RRSP or TFSA?

If you are looking into a retirement perspective, investing in your RRSP or your TFSA will create about the same results. While the RRSP gives you’re the opportunity to get your tax return right away, you won’t be taxed on your TFSA withdrawals at retirement. Personally, I would stick with the RRSP’s for retirement and use my TFSA for other projects.

Some interesting RRSP strategies:

Depending on your financial situations, you may find some interesting RRSP investment strategies that can help you save a lot of money:

#1 The Double Dip

A long time ago, I wrote about the double dip strategy. This RRSP strategy consists of reinvesting your tax return into your RRSP every year. Therefore, if your marginal tax rate is 40% and you contribute $10,000 to your RRSP, you should save $4,000 in taxes. Use this very same amount to contribute again to your RRSP and you will get an additional $1,600. So with a 10K contribution, you generate a tax return of 5,6K which is 56% taxes saved. Not bad, huh?

#2 The RRSP Loan

Several financial advisors will recommend that you take an RRSP loan if you don’t have the money to contribute to your RRSP. While this technique will allow you to receive a bigger tax return right away, you should think twice before taking an RRSP loan. Why? Simply because if you can’t pay this loan back within 12 to 24 months, you are paying too much in interest and you would be better off with a systematic investment. You won’t get a huge tax return if you invest $400 per month into your RRSP but you will end-up with a better return over 5 years than taking a RRSP loan with similar payments.

#3 HBP RRSP Loan

This is a very interesting strategy as it is used to boost your cash down for first home buyers. If you have a marginal tax rate of 40% and you have 20K RRSP unused contributions, you can take a 20K RRSP loan before buying the house. Under the HBP, you are allowed to withdraw your RRSP investments to buy a property tax free (as long as the money had stayed in your RRSP account at least 90 days). So you withdraw your 20K and payback the loan. Why do this? Because the 20K contribution will generate a 8K tax return the very same year. Therefor, you will have 17 years (15 years + 2 years of grace period) to put back the 20K in your RRSP account and you will benefit from an additional 8K right away to purchase your property. More info can be found in Million Dollar Journey’s post about HBP plan.

#4 RRSP and investing with tax optimization

This investing strategies is relevant only for investors who have a significant amount of money invested in both registered and non-registered accounts. The strategy is fairly simple but it is too often forgotten. Using your track investment apps, you should be able to determine your global asset allocation. Then, you simply have to maximize the amount or fixed income in your RRSP and increase your equity portion in your non registered account. For example, if you have a overall balanced portfolio (50% fixed income / 50% equity), you should show a conservative portfolio in your RRSP (75% fixed / 25% equity) and an aggressive investment strategy in your non-registered account (25% fixed / 75% equity)(assuming that both accounts represent 50% of your total investment). If you are not sure about how to do it, you can use bank investment services.

#5 RRSP and systematic investment

For young (and not so young) investors, the bi-weekly RRSP contribution is definitely the best investment strategy you can put in place. While you won’t even notice that your RRSP contributions are made, you will build a strong portfolio and absorb market fluctuations. So if I have one advice for 2010; this would be it!

Therefore, I guess you will probably meet with your financial advisor for your 2010 RRSP contribution in the upcoming weeks. So I thought of gathering a few RRSP facts and FAQs:

How much can I contribute to my RRSP for 2009?

-         The general rule is 18% of your declared income in 2008.

-         However, if you have pension plan, you must take a look at your Federal Notice of Assessment (the document sent to you by the government after you filed your taxes. It will show you maximum contribution available for your RRSP.

What is the maximum RRSP contribution for 2009?

-         The maximum is 18% of your declared income up to $21,000.

-         If you are contributing for 2010, the RRSP contribution limit is $22,000.

-         You can exceed this amount by $2,000 but you will not get a tax return from this amount. Any RRSP contribution beyond the $2,000 overcontibution allowed will be penalized by a 1% tax monthly.

How can I contribute by using my unused RRSP contributions from past years?

-         The total amount of your unused RRSP contributions is shown on your Federal Notice of Assessment.

-         You are allowed to contribute this amount in total and get the full tax return (but make sure to read the following point before doing so).

Should I use all my RRSP contributions in one year?

-         You should be careful about your tax brackets and contribute as much to your RRSP in order to get the highest tax returns possible.

-         To take a look at your tax bracket, you can use Ernst and Young Tax Table and RRSP tax saving calculator (it’s free!). I suggest you play around with different RRSP contributions to see how much you will receive in tax returns.

Should I take an RRSP loan to maximize my RRSP contribution?

-         RRSP loans are effective if you plan to pay it back within 24 months. If you are to take a 5 year RRSP loan, you are better off starting a systematic investment in you RRRSP and forget about your tax return this year.

-         The interest paid on an RRSP loan is not tax deductible.

-         Some strategies include an RRSP loan to maximize your tax return while it serves to pay back the loan. This is interesting when you think about your retirement (long term strategy).

-         An RRSP loan can also be used for the Home Buyer Plan (HBP). You take a big RRSP loan, get the tax return and withdraw your RRSP under the HBP rules (so you don’t get taxed) to pay back the RRSP loan. Therefore, you receive the RRSP contribution tax return right away and this could help to increase your cash down or pay for other expenses (moving, lawyer fees, painting, etc.).

What is best: RRSP or TFSA?

-         If you think about your retirement and you wish to get a tax return, the RRSP contribution is the best option.

-         However, if there is a possibility of withdrawing the money within the next 3-5 years for a specific project, you are better off with the TFSA.

-         When you calculate the comparison between RRSP contribution vs TFSA contribution for retirement, it all comes back to the same thing.

Which kind of investments can go into an RRSP account?

-         Almost all kinds of investments (certificate of deposits, bonds, mutual funds, stocks) are allowed.

-         You are not limited to the Canadian market anymore (there used to be a 30% maximum rule for international equities).

Got an RRSP question?

If you have other questions, please fee to post a comment and I will add your questions and my answers into this post.

Since you don’t have access to track investment apps or high quality investment services, you need to do your own research before you meet with a financial advisor.  This is why it is so important to prepare for your meeting beforehand so you can have an idea how you want to invest your RRSP contribution. In this article, I have listed a few 2010 RRSP investment ideas that you can discuss with your financial advisor. Please note that those are not recommendations but simply investment ideas to help start the discussion.

2010 RRSP Investment Ideas:

#1 Diversified Mutual Funds

If you are a beginner investor and you are looking for your first RRSP contribution, I suggest you go with a “packaged” investment product created by your financial institution. While the management fees (that are being taken off the top of your investment returns (profits or losses) are higher than other types of investment solutions, this is a great place to start in the investing world.

Diversified mutual funds will allow you to invest in several types of assets (money market, government and corporate bonds, Canadian, American and International stock markets) and will always remain invested according to your risk tolerance, investment horizon and specific goals.

#2 Build Your Own Mutual Funds Portfolio

If you know more about the stock market and you want to pick specific funds, you can build your own mutual funds portfolio. While I don’t think it is a great idea for most investors (many think that they can manage on their own but it is usually a big mistake), you can go on investing sites (see my articles about 9 free Canadian Investing websites for links) and pick the best performing mutual funds. Make sure to pick funds that have a long track record, relatively low management fees (MERs), that are part of the 1^st or 2^nd quartile over 5 years + and that the management team has been in place for a while (you can look at the reasons to sell a mutual funds in this article).

When building your own portfolio, you must be careful about front end and back end fees (fees when you buy or when you sell). You might want to build your portfolio with a financial advisor in order to make sure you make the right decisions. Another important thing is to rebalance your investment according to your original asset allocation. While the diversified mutual funds do it automatically every 6 months, you will have to transact by yourself in a homemade portfolio. So building your own portfolio might not be a bad investment idea but it surely requires more knowledge and more time. A humble person once said that the more they know about the markets is proof that he does know much.

#3 Want To Work With ETFs?

If you are a beginner in the world of ETFs and you have a decent amount to invest (more than $25,000), you should try to contact a broker. The problem is that you may have a hard time finding one if you are just starting to invest. They are usually go after bigger accounts (this is too bad, but it is the name of the game).

If you still want to trade ETFs nonetheless, I suggest you open a brokerage account (for example Quest Trade since they have one of the least expensive transaction fees) and start with market index ETFs (ETFs replicating the Canadian Stock Market or the US Stock Market). As a beginner investor, I would not go this route but if you have been investing for a few years, it might be the right time for you to look at this option.

#4 Looking for the Best Sectors for 2010

For this investment idea, we are entering the world of speculation. Nobody knows which sector will outperform the stock market index this year. From 2003 to early 2008, the financials, resources and emerging market were pushing investors to the highest yields they might have ever seen. Yet, these went down dramatically during the credit crunch. This is why it is very risky to predict the future.

Nonetheless, you can find specialized mutual funds and ETFs concentrated by industries. The easiest way to find them is by using sites such as Morningstar or GlobeInvestor (then again, I suggest you take a look at my article about free investing websites for more options).

Trading ETFs will reduce your investing fees to the minimum but you will follow the major trend of a specific industry. On the other side, specialized mutual funds are pretty expensive in term of MERs but you can benefit from the experience of professionals. In niche sectors, I think it is easier to beat the market since the number of companies to follow is smaller.

#5 Forget about CD’s and Beware of Bonds

Certificates of Deposit will barely cover for the upcoming increase in inflation and you won’t do much with your investment with a return of 1 to 2%.

On the other hand, bonds could be a better investment idea but prepare yourself to experience a drop in the value of your bond portfolio in 2010-2011. Bonds values go down when interest rates go up, therefore, you will see a temporary drop in your investment values if you hold bonds. However, this will come back to normal at maturity (you still get your money back at the end ).

#6 Linked Notes and Variable CDs

If you are looking for more investment returns but you are not willing to see your investment yield goes negative, linked notes and variable certificates of deposit might be a great investment idea. As I mentioned before, I don’t really like linked notes because you pay a high price for your capital security. However, sometimes the peace of mind is more important that making money. And this is why banks offer the possibility of guaranteeing your investments while expecting higher yield since your investment is linked to the stock market. This would not be my first choice but it is definitely the best alternative to classic certificates of deposit.

Whoa! I usually don’t write posts this long but I thought it was important to provide some RRSP investment ideas before the madness starts in February!

What about you?

What will be your investment choice for this RRSP season? Will you stick to your plan? Change your investment picks?

It is the RRSP season in Canada (Your last chance to contribute to your registered retirement saving plan for the year 2008 on March 2^nd), and we see a lot of government bonds advertisements. They offer bonds at about 3% interest rate and they tell you that it’s 100% and suggest that you put them into your RRSP account.

The thing is that 3% seems a lot more than your balance portfolio that did -20%, right? Many investors have the bad habit of doing linear assumption. “At a rate of -20% per year, I’ll lose all my money within the next 5 years”. Even though this assumption is mathematically wrong (as you will lose 20% of the balance of your funds each year and not 20% of you original amount), it is even more wrong to think that we will make -20% for 5 years.

To these clients, I ask them the following question:

The price of gas was at $1.50 a litre back in July 2008, 6 months later, it now around $0.80. At this rate, don’t you think that next summer we will pay $0.25 a litre?

They all think I’m stupid, however, if their linear assumption is good for the stock market, it should be good everywhere, right?

Back to our dear Government. So they offer bonds with cheap yield (I can’t blame them on that since we are living in a world of very low interest rate) and they tell you it’s good to include this in your retirement account.

Let’s do the math for fun… $5,000 per year at 3% in… 25 years. That makes a total contribution of $125,000 (5K times 25 years). Your portfolio will worth $182K. How much do you think you will be able to withdraw from it for 20 years?…. not much!

If you do the same exercise with a yield of 5%, you will get 238K and with a 7% yield (if you are aggressive); 316K. This is what we call the power of compounding interest.

I’m not saying that government bonds are not a good investment options, but depending on your age and the number of years you have before retiring, you should consider other option.

How would you react when the market comes back with a +20% in a year? How would you feel with your 3% return? If you think that you will still be happy with it, then the government bonds are a good investment option… if you swear that you won’t go back into the market after it came back from the dead!

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Dring… Dring…

- Hello, may I speak with M. TFB please.

- Yeah that’s me!

- Hello sir, my name is Evil Banker and I would like to book an appointment with you for your RRSP contribution.

- Nah… I don’t have money left for retirement this year (I just bought a brand new TV instead ).

- Well sir, we still have a solution for you. How about getting your RRSP contribution done and a retirement plan (i.e. excel spreadsheet with a graph) at the same time? We can arrange everything for a small amount per month and you would get a huge tax return in May. How does that sound?

How does that sound? That sounds like the regular banker sales pitch during a RRSP campaign I’m making fun of my colleague here but we need a bit of laughter in this strange world, don’t we?

Seriously, several Canadians contract a RRSP loan every year in order to catch up with their unused RRSP contribution. Is it a good idea? Should we use this leverage strategy? (yes, it is a leverage strategy as the Smith Manoeuvre).

The RRSP loan is a great investing strategy under the following guidelines:

- It must be at a very low rate of interest (prime rate or near prime rate)

- It must be reimbursed within a maximum of 24 months (2 years).

- It must fit in your budget

- The tax return should be used to pay off a part of the RRSP loan and not to finance the next trip to Disney Land with your kids.

- Once paid off, you should keep your payment into a saving habit by setting up a systematic contribution into your RRSP account.

- Use the RRSP loan while participating to a HBP (Home Buyer Plan)

A RRSP loan is not a great investing strategy under if the following happens:

- You take a huge amount and you can’t pay it off within 24 months. In this situation, you rather simply use the payment as a systematic contribution into your RRSP account and you will save the interest (which is not tax deductible).

- You can barely make your payments and the RRSP loan jeopardize your financial situation.

- You have no intention to use your tax return in a financial planning strategy (you are then missing the whole point of taking a RRSP loan).

So if you are not 100% convinced that you should take a RRSP loan or not, ask your financial adviser questions in order to understand if there is a strategy behind the loan or simply your banker’s commission

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Linked notes in your RRSP?

I am personally not a big fan of linked notes (you can read more on the topic here). However, it has some advantages if you have been roughed by the markets lately. If you do not consider investing in mutual funds, indexes or other product related to the market due to their volatility, you might like linked notes. They guarantee your capital 100% and offer a yield related to the market. They are usually offered for 3 year and older (up to 8 years). Since this is an investment for your retirement, you don’t really have to worry about the investment term.

Cut the fees in your RRSP account

If you are young and still accumulating on a monthly basis, this strategy might be difficult to apply. However, if you have more than 100K invested in your RRSP account, you will love this strategy.

Instead of paying fees to have your fixed income managed you can do it yourself or having your financial planner / broker do it for you for 0% MER’s! By doing a bond ladder will avoid unnecessary fees on something that will give you only 4 to 5% yield anyway. So separate your RRSP account into 2 part according to your original asset allocation: a part with 0% MER’s with a bond ladder and the other part fully invested in the markets (Canadian, American and international markets).

Get a rrsp loan to catch up unused contributions.

This is an easy and simple way to boost your RRSP: force yourself into a periodic investment You will have to do it backward and contract a loan to create the saving habits you it is better now than never

Once your rrsp loan is reimbursed, keep the same amount and invest it directly into your RRSP’s. Therefore, you won’t have worry about your RRSP contribution and retirement. You will be set on semi automatic pilot

What is your RRSP strategy for 2009? Are you going into index funds? Directly into ETF’s? GIC’s and corporate bonds?

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After the Canadian Government’s create of the Tax-Free Saving Account, many bloggers wrote their thoughts about it. I did a comparison between the RRSP and the TFSA in order to show the advantages and disadvantages of each type of account. However, I don’t think it was clearly showing which account is best. Today, I am doing more calculation in order to see which account gives what at the end of the line.

Assumptions

So here are the numbers I worked with: You can save up to 5k per year for the next 25 years. You think you will earn an average yield of 7% during that period. Your marginal tax rate is 38% and you will reinvest your 1^st and 2^nd tax return into your RRSP plan (38% of 5K is $1,500 and 38% of $1,500 (only starting the second year) is $722). After 25 years, you will get either $338,382 in your TFSA or $503,499 in your RRSP. For calculation detail, please look at the chart below:

Retirement

So let’s pretend that you don’t earn any other income but the one received from your TFSA or RRSP (it might be the very truth because of the babyboomers, who knows?). Since you are retired, your investment return should drop to 5%. If you withdraw 25K net of taxes, you would be able to do it for 23 years with the TFSA and 25 years with the RRSP (we have to count that you will withdraw at an average rate of 30% since you don’t have any income).

However, if you have other source of income (government’s pension, employer’s pension, rental properties, etc.) and you are still at 38% marginal tax rate, your RRSP account will only last 20 years.

The Conclusion

I would declare the TFSA the winner for the following 2 reasons;

- TFSA provide the contributor much more flexibility and withdrawals are tax free.

- RRSP accounts are competitive if you pay less than 32% average tax rate and you must invest all your tax returns into your RRSP in order to have these numbers. Then again, the TFSA is much more flexible.

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