March 18, 2008, 6:00 am

TFSA VS RRSP – The Ultimate Fight

by: The Financial Blogger    Category: Investment, Market and Risk,RRSP
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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 1st and 2nd 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:

 

Year

TSFA Contribution

RRSP Contribution

RRSP Return (Reinvested)

RRSP Return #2 (Reinvested)

1

5 350,00 $

5 350,00 $

1 900,00 $

0

2

11 074,50 $

11 074,50 $

3 933,00 $

772,54 $

3

17 199,72 $

17 199,72 $

6 108,31 $

1 599,16 $

4

23 753,70 $

23 753,70 $

8 435,89 $

2 483,64 $

5

30 766,45 $

30 766,45 $

10 926,40 $

3 430,03 $

6

38 270,11 $

38 270,11 $

13 591,25 $

4 442,68 $

7

46 299,01 $

46 299,01 $

16 442,64 $

5 526,20 $

8

54 889,94 $

54 889,94 $

19 493,62 $

6 685,58 $

9

64 082,24 $

64 082,24 $

22 758,18 $

7 926,11 $

10

73 918,00 $

73 918,00 $

26 251,25 $

9 253,48 $

11

84 442,26 $

84 442,26 $

29 988,84 $

10 673,76 $

12

95 703,21 $

95 703,21 $

33 988,06 $

12 193,46 $

13

107 752,44 $

107 752,44 $

38 267,22 $

13 819,54 $

14

120 645,11 $

120 645,11 $

42 845,93 $

15 559,45 $

15

134 440,27 $

134 440,27 $

47 745,14 $

17 421,15 $

16

149 201,09 $

149 201,09 $

52 987,30 $

19 413,17 $

17

164 995,16 $

164 995,16 $

58 596,41 $

21 544,64 $

18

181 894,82 $

181 894,82 $

64 598,16 $

23 825,30 $

19

199 977,46 $

199 977,46 $

71 020,03 $

26 265,61 $

20

219 325,88 $

219 325,88 $

77 891,44 $

28 876,75 $

21

240 028,70 $

240 028,70 $

85 243,84 $

31 670,66 $

22

262 180,70 $

262 180,70 $

93 110,90 $

34 660,14 $

23

285 883,35 $

285 883,35 $

101 528,67 $

37 858,89 $

24

311 245,19 $

311 245,19 $

110 535,67 $

41 281,56 $

25

338 382,35 $

338 382,35 $

120 173,17 $

44 943,81 $

 

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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Comments

Am I reading this right? Are you saying that by year 25 I would get a tax return of over $160k (or over $40k by year 11) from my RRSP investment? . In order to get those kinds of returns, I would have had to have paid at least that much in tax in the first place. Unless you model also sees wages skyrocketing, I don’t see how this scenario is plausible.

by: The Financial Blogger | March 18th, 2008 (8:00 pm)

Cnidog,
If you REINVEST all your RRSP returns from a $5,350 contribution at the same rate, you will get 160K. This is the magical power of compounding interest. 😀

[…] The Financial Blogger does his own RRSP vs TFSA battle analysis.  His conclusion is that the TFSA wins.  Ed Rempel had a similar conclusion in his article "TFSA vs RRSP: Clawbacks and Income Tax on Seniors"  […]

[…] The Financial Blogger does his own RRSP vs TFSA battle analysis.  His conclusion is that the TFSA wins.  Ed Rempel had a similar conclusion in his article "TFSA vs RRSP: Clawbacks and Income Tax on Seniors"  […]

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