An RRSP or a TFSA?

There's a new kid on the block when it comes to saving for the future. So what makes the most sense now — contributing to your RRSP or to a new Tax-Free Savings Account (TFSA)?

"It all depends on your income tax rate at the time when contributions are made, as compared to the rate during the withdrawal phase," explains Chartered Accountant Kenneth Lancaster, Tax Principal, MacGillivray LLP in Hamilton.

"If the two rates are identical, then the TFSA is a preferred option because it is more flexible and withdrawals do not affect income-tested benefits.

"Many individuals fall in the category where their income tax rates in the accumulation phase are higher — that's because they are in their peak earning years and are paying high income tax rates. Presumably, when they retire, they will be paying much lower income taxes. Since their contribution income tax rate is much higher than the withdrawal income tax rate, an RRSP contribution is probably the preferred option for this category of individuals," says MacGillivray.

"For the few Canadians who pay a higher rate in their withdrawal years than in their contribution years, a TFSA is probably the better choice."

Courtesy of the Institute of Chartered Accountants of Ontario.