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Saving for the Future: RRSP and TFSA

Posted by: Gavin Au-Yeung Date: February 9, 2021 Category: Blog

Saving money is never a bad decision. Newcomers who have achieved a certain level of financial stability should consider saving their money for the future. In Canada, there are two main types of savings accounts that will offer different benefits. They are the Registered Retirement Savings Plan (RRSP) and the Tax-Free Savings Account (TFSA). Both the RRSP and TFSA offer ways for you to invest your money and save for the future. While both plans are great ways to save money, choosing the plan that is best for you will require further understanding.

Recommended blog: Basics of Canadian Banking

Which account is right for me?

Both the RRSP and TFSA are great ways to save money. You can determine which account is right for you by comparing their features. Alternatively, you can also open both types of accounts in order to meet your individual needs. In fact, the best-case scenario is if you are able to maximize your contributions to both accounts. Both accounts can help grow your money through investing. Investments can be made through stocks, mutual funds, bonds, and other options. Speak to a financial advisor if you are not comfortable making investment decisions.

RRSPs are typically used to save for retirement and considered for long-term investments. On the other hand, TFSAs are typically used for short to medium-term goals such as buying a car or paying a down payment for a home.

How much can I contribute?

The contribution limit refers to the amount of money you can put into each account. Your contribution limit in a TFSA will increase yearly. This year, you can contribute $6000 to your TFSA. Any unused contribution room can carry over into the next year. Therefore, if you turned 18 before 2009, your maximum contribution room is $75,550 as of 2021. Be careful about over-contributing. Going over this maximum limit will result in penalties.

As for the RRSP, you can contribute up to 18 per cent of your reported earnings from last year. The number for RRSP contribution is capped at $27,230. Any unused contribution room is carried over into the next year. As the RRSP is meant for retirement, you can continue contributing until December 31 of the calendar year you turn 71. Unlike the TFSA, contributions to your RRSP may reduce the amount of income tax you pay. This is because RRSP contributions are tax-deductible.

When can I withdraw my funds?

The rules for the TFSA are fairly simple. You can withdraw money from this account anytime, tax-free. You cannot re-contribute any withdrawn amount until the next calendar year. For example, let’s say you have maxed-out your TFSA. If you withdrew $1,000 from your TFSA, that amount is no longer available contribution limit. However, you can re-contribute $1,000 the next calendar year in addition to next year’s added contribution room.

On the other hand, it is best to wait until retirement before withdrawing from your RRSP. The funds you withdraw will be taxed as part of your income. This is why it is most beneficial to only withdraw funds from your RRSP when your income is lowered or you have retired. Furthermore, the amount you withdraw will no longer be available in your contribution limit. However, there are two exceptions for withdrawing funds from your RRSP early. These are in the cases of the Home Buyer’s Plan (HBP) or Lifelong Learning Plan (LLP). The money withdrawn from these exceptions are not taxed but must be re-contributed within a specific period of time.

How long can I keep contributing?

You cannot contribute to your RRSP after the age of 71. At this age, you can either perform one of two actions with your RRSP. Firstly, you can withdraw the entire amount. In this situation, the entire RRSP becomes a part of your taxable income. This would likely be a very large amount. Secondly, you can convert your RRSP into a Registered Retirement Income Fund (RRIF) and draw smaller payments. The minimum withdrawal amount is set by the Canadian Revenue Agency (CRA) and is based on a percentage of your RRIP’s market value.

On the other hand, a TFSA has no upper age limit. The TFSA is a great way to reduce the taxes you pay at any age. You could even take any unused money from your RRIP and put it into your TFSA if you have not surpassed the contribution limit.

Should I start saving as a newcomer?

Only you can answer this question. It is generally a good idea to save money when possible. However, many newcomers pick up survival jobs. These are low-skill jobs that help pay monthly bills. While saving is an important part of personal finance, it may not always be possible due to immediate needs such as rent, food, and utilities. Saving is recommended for those who can afford to put money after paying required bills. Speak to a financial advisor if you require more assistance with financial planning and saving.

Recommended webinar on February 18, 2021: Financial Literacy for Canadian Newcomers

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