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

[sagarjackey]

@kanpachi Yes it becomes more complicated when you take all that into account, indeed. I personally prefer having a benefit now than in 30 years though, given that you cannot predict what the government will be offering by then. But it depends, i agree

 

[shellyssaved]

@birdlegs Young people just entering the workforce are likely to have a higher tax bracket in retirement. Anyone in the lowest tax bracket (under fifty thousand in Ontario) will at best be in the same bracket in retirement which would make TFSAs superior given their flexibility, and that future RRSP/RRIF withdrawals will impact some government benefits seniors would otherwise be eligible for, or that any emergency requiring depleting of investments before retirement could see withdrawals from an RRSP at a higher tax bracket than at the time of contribution.

 

[mygodisstrongerthani]

@shellyssaved Depends on your career. If you get up to 80 or 90k quickly then you will very quickly be earning at a rate well above your average retirement age rate.

Domt forget we are comparing your marginal rate not average rate.

 

[saralouben]

@birdlegs This completely ignores OAS/GIS, though. If your RRSP income ends up with clawed back OAS/GIS then it’s better to go TFSA.

 

[birdlegs]

@saralouben You save enough TFSA for 65-69 to claim max GIS. CPP will be subjected to GIS clawback, so once you take CPP at 70 your RRSP withdrawals won't matter when you factor GIS, as most of your GIS will be clawed back at that point anyways.

 

[opticeye07]

@birdlegs Still important to keep in mind for folks who expect little to no CPP (eg. folks with a short working life in Canada) and need to decide whether they should try to maximize their GIS, either by limiting RRSP contributions (and therefore withdrawals) or aggressively draw it down before age 70.

 

[heathermj]

@birdlegs Early on they might, also those with DB pensions could. Also uncertainty with tax brackets (could go up or down)

 

[dareldsmeme]

@melsha ...and that tax rate is the effective tax rate, which takes into account things such as marginal versus average tax rate, effects on government credits and benefits, and clawbacks on GIS and OAS.

As an example, at contribution time, the effective tax rate on the amount contributed to the RRSP might be your highest margin tax bracket(s). At withdrawal time, if the RRSP comprises the bulk of your retirement income, then you might well consider the effective tax rate to be your average tax rate. So it's uncommon, but it's possible that you might be in a higher marginal tax rate at retirement, but the difference in effective rates still means that the RRSP comes out ahead of TFSA after taxes.

The opposite can be true. If you are a high income earner with a generous pension that will make up the bulk of your retirement income, then you might consider the effective tax rate on your RRSP withdrawals to be your highest marginal tax bracket(s), since they are adding income on top of your pension. If that pushes you into OAS clawback territory, then the effective tax rate on the withdrawals is even higher. So it's possible you could have been in a higher marginal tax bracket at contribution time versus retirement, but the RRSP comes out worse than a TFSA after taxes. As the spouse of a federal government worker, I attended my spouses retirement prep course and they pointed this out as something to be aware of for government workers retiring with a full pension: the pension + CPP + OAS + RRSP withdrawals might push the retiree into OAS clawback territory, thus increasing the effective tax rate on RRSP withdrawals in retirement. So they may want to prioritize TFSA over RRSP.

 

[reddragon4444]

@dareldsmeme yes this is the most important part,

you put in at your marginal rate

you pull out at a smear of rates, which is the average/effective tax rate

even better if you pull out before collecting cpp/oas, since then a good portion of it is 0% tax, then 20% then ....

even better contribute to personal and spousal so they are equally matched to withdraw reasonable amount from each in those pre-cpp/oas years

no question RRSP is better than TFSA if your marginal rate is anywhere > 25%

so when working put in mostly @ 53% though doesn't really matter if if was 30%

will put out mostly from 57-70 @ < 10% average tax rate,

then sure will go up after 70 when collecting a base of oas/cpp

still of course fill up TFSA every year too, but don't really plan on ever touching that.

 

[momofone1]

@reddragon4444 Happy to see you continue to chime in here - this fundamental concept is lost in so many analyses I see and so many comments on reddit. Maybe I'm in a weird situation as I want to retire very early with no pensions, but I can 'create' MANY years with no other income, where I can arbitrage (I know, not quite the right term, but the concept is the same) the fuck out of my and my wife's overly large RRSPs.

 

[vernonmolina]

@reddragon4444 Agree with what you said.

Applying a similar concept, a non-registered account will be very similar to a TFSA if you have no other income during retirement. As there, half your capital gains would need to exceed ~$30K before being taxed at all.

The major difference is that you have a small ongoing tax drag in the non-registered from the dividends/distributions every year.

 

[houstonreborn]

@melsha I am no accountant but in mind simple mind I see it this way: from the TFSA I can withdraw anytime with no penalty. From RRSP not so much. God knows I may be dead tomorrow (busfactor). I feel much better knowing that I can withdraw tomorrow and not having to worry about the taxes due next year. Sure, maximizing TFSA and after that I can “afford” to fill the RRSP. My 0.02

 

[melsha]

@houstonreborn There is no penalty for RRSP either.

Just the tax that you deferred.

Doesn’t take long to calculate what to set aside.

Anyway look at the tables some more. Hopefully you’ll appreciate RRSPs more like I do now after I understood this.

Prioritizing TFSA vs RRSP is based on your personal financial situation. I’m not advocating for either one.

 

[houstonreborn]

@melsha Well, of course, no penalty. It’s just that the government will want more than 30% of it next year. It’s more of a physiological factor I am not ready to deal with. Until I fill it, TFSA will be my priority for now. Surely, if I am in danger to pay anything in taxes I will deposit some in my RRSP. But I also contribute through work so I guess I am fine.

 

[melsha]

@houstonreborn Yes the psychological factor is what this post is meant to try and help with.

I don't think you're doing anything wrong mind you. You do whatever best fits your situation.

All I'm trying to say is that those payroll contributions you're making through work - excluding that sweet employer match - will in effect net out to the same - if not better - take home when you do start withdrawing from it as if you were contributing and withdrawing from your TFSA.

So having to pay tax on RRSP shouldn't be seen as a bad thing.

Under a TFSA you've prepaid it.

Under a RRSP you've decided to defer it.

As long as your tax rate at withdrawal is the same as / lower than your contribution rate you'll end up the same as a TFSA or even ahead.

That's all.

And of course if you have to withdraw in a time of need during your core working years, then withdrawing from TFSA is simpler and the easier choice since you can recontribute to it at a later date.

 

[1s4b3ll4]

@melsha Correct

And if your tax rate at withdrawal is lower than at contribution, then the effective tax rate on your RSP investments is negative

 

[adam56]

@melsha One flaw in your analysis is that tax brackets increase with inflation. If I make $100k today at a 45% tax bracket, in twenty years time, $100k income will be at a 35% tax bracket.

Secondly I beleive this is a problem a very very small minority of Canadians will have. If you are making same during your retirement years as you are during your working years, good for you. All the power to you, and of course, plan your taxes accordingly. But this is likely only to the top 5% of Canadians.

 

[melsha]

@adam56 Correct. Thats the 2nd chart. RRSP comes out ahead of TFSA, which is where most of us should end up. A lower tax rate in retirement.

 

[djkword]

@adam56 The Tax bracket increasing with inflation just increases the value of RRSPs as it is incredibly difficult to be at the same tax bracket as your working years.

Its many low income Canadian's that are likely to be at a similar tax rate in retirement. OAS is a much larger percentage of income for low income retirees than high income.

Generally people who earn 50 or 60k are emphatically recommended to focus on TFSA instead of RRSP which might not actually be mathematically correct.

 

[mygodisstrongerthani]

@adam56 I would say fat less than the top 1% of Canadians will have this problem.

The only ppl who have rates higher in retirement then when working are people with generational wealth or who start an extremely successful business.