TIL - If your tax rate at contribution and withdrawal is the same, your take home from pretax RRSP contribution is the same as TFSA at withdrawal

[zango11]

@melsha RRSP contributions also increase your CCB if you have kids.

I also suspect it is likely for high earners (or most people) to structure their RRSP withdrawals so that they are in a lower tax bracket than when they contributed.

 

[technol]

@melsha Does this factor in OAS / GIS claw back? After hitting a modest retirement income that can certainly give TFSA an advantage. For me, I have a DB pension, and I don't want to worry about claw back so I focus on my TFSA.

 

[beleadnotastray]

@melsha RRSPs are great if you expect your tax rate at withdrawal to be lower than your tax rate at the time you contribute. But they have problems, not least of which is how very little RRSP room people might have if they have a workplace pension, which significantly reduces contribution room, and can render an RRSP a bit of an add-on rather than a primary account.

 

[markymarc]

@beleadnotastray If you have a workplace pension and actually max it out you may not have a lower tax rate at withdrawal anyways.

The RRSP is a bigger benefit for the people that don't have a pension/much income in retirement.

 

[greatblue]

@beleadnotastray I find in those cases, an early drawdown may be feasible. This way you can also have more control what tax bracket you withdraw your RRSP under, thus ensuring you come out ahead via tax arbitrage.

And for those with defined benefit pensions, such as public servants, you can always check your terms of employment to see if you can take leave without pay to bump up your highest years of earnings and pad your pensionable service during the drawdown period.

 

[sportfishingjunkie]

@melsha Yes, people don't get this! I have had so many people tell me I'm wrong in the last month or so when I say this: you do not pay taxes on profits inside an RRSP. The taxes are pre-funded by the refund. It doesn't matter if someone takes 30% of your money before it grows, or after it grows, you'll end up with the same amount of money!

And, if your tax bracket lowers between contribution and withdrawal, you get a further bonus! Of course, if you're unlucky the opposite could happen too, but it might still be worth it to have the years of tax-free growth (if your TFSA is already maxed, that is!).

 

[melsha]

@sportfishingjunkie I was one of those people going “you’re wrong learn math”

And then I was shown the above math, at which point my brain malfunctioned.

 

[sportfishingjunkie]

@melsha According to Chris Reed (I recommend this paper on the topic: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3240046 - it has no citations unfortunately but the math is sound and you can download spreadsheets to play with the examples yourself), the problem is that people understand the rules and mechanisms but don't fully understand the resulting benefits.

For instance, it's very easy (and seems perfectly legitimate at first glance) to say "well RRSPs are obviously tax-deferred, since you pay taxes later! Thus, there's no way growth can be tax-free!". But when you actually do the math, you realize that even though you do pay tax on withdrawal, the amount of tax you pay does not increase based on capital gains, dividends, etc. Yes, you're taxed as the account grows, but if you think of the account as simply "70% owned by me, and 30% owned by the government", then it's clear that your part's growth is never taxed. I see why people are tripped up by it, which I think is also partially based on the poor marketing surrounding the account, which the author discusses too.