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What's the best retirement strategy? Assuming I have $1000 and room in both my TFSA and RRSP contribution, where should the $1000 go?

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For pure retirement savings, with an expected tax bracket drop at retirement, then RRSP's make the most sense. So if you are in the 29% bracket (~40% when you take the provincial component) then you invest $1000, and save $400 in taxes. When you withdraw it later on, you might be in the 26% bracket (36% with provincial) so you would owe $360 in taxes.

However, if you are young, and expect to buy a house in the future, TFSAs make more sense. Presumably, you haven't reached your highest earning potential, so any tax savings will be at the lower rate. With a TFSA, you can get the benefit of all your money, and its earnings without penalty, as the tax has already been paid.

I personally am in the middle bracket, and am using a mixed approach. 50% to TFSA, and 50% to RRSP. I've put my high-risk in TFSA, and my low-risk in RRSPs. That way I get any windfalls tax free.

There is one thing that a TFSA is perfect for: Emergency Funds. I recommend that everyone have a $5000 CASH TFSA. It won't earn much, but it's not as tempting to borrow from as a regular savings account, but the funds are available in an emergency, usually within the same day.

  • TFSA's are great for emergency funds because you can repay the money in SUBSEQUENT years (not the same tax year) without penalty. With an RRSP, you can not repay the money if you have to withdraw it. Having recently had an emergency, I was glad I had the money easily available in a TFSA. – ChrisInEdmonton Aug 19 '11 at 19:51
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As the first step and initiation, you ought to read Tangerine Bank's PDF, which also explains the similarity between RSP vs RRSP (on p 3 of 12)

This Globe and Mail article dated 2012 Feb 22 pithily compares RSP with TFSA:

The take-home point here is that, outside of an RRSP, the government does tax you on income and capital gains earned on your own money. So you get hit twice – first by the initial tax on your income, and again by taxes on the dividends and growth of your capital. With an RRSP, however, you’re in effect only paying tax on your initial income. The tax hit looks so large because that initial tax bill, which you deferred, has grown for 20 years at the same rate as your investments.

What about tax-free savings accounts, you ask? Assuming the investor’s tax rate doesn’t change, a TFSA will produce the same result as an RRSP. Why? Because, just like an RRSP, there is no tax on dividends, capital gains or interest in a TFSA. The only difference is that you pay your income tax upfront with a TFSA, and you pay it later with an RRSP.

http://youngandthrifty.ca/tfsa-vs-rrsp/ lists the pros and cons. A summary therefrom:

Do you see what I mean about them [ie: RRSP and TFSA] being the inverse of each other? RRSP = pre-tax dollars invested, taxed when you withdraw;
and TFSA = after tax dollars invested; no tax when you withdraw.
Now that we’ve introduced the siblings, lets look at their good and bad traits.

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I am not from Canada, so take any of this advice with a grain of salt, but assuming I understand the account types correctly you can see my post from the following thread regarding similar types of investment accounts. Just exchange the term RRSP with traditional IRA and TFSA with Roth IRA.

What are the differences between a "traditional" IRA and a Roth IRA?

My points of reference http://en.wikipedia.org/wiki/TFSA http://en.wikipedia.org/wiki/RRSP

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    +1. You're right: our RRSP is similar to the traditional IRA (up-front tax deduction, taxable withdrawals) and the TFSA is similar to a Roth IRA (no tax deduction, tax-free withdrawals.) – Chris W. Rea Oct 12 '09 at 15:24
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    I wouldn't be surprised if the Roth IRA, in fact, inspired the Canadian government to create the TFSA. – Chris W. Rea Oct 12 '09 at 15:25

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