Should I put money in my TFSA or RRSP? (In Plain English)

Updated: Feb 11, 2021

Note* The following does not constitute legal or financial advice and the publisher does not guarantee the accuracy of this information. Please seek professional consultation before making investment decisions.

So you want to start putting money away for retirement and want to do everything as tax-efficiently as possible, the problem is that you're not sure which account is better over the long term.

RRSP: When you contribute to your RRSP the amount you contribute is deducted from your taxable income. This means that at the end of the year you will receive a refund for the amount of tax you overpaid during the year. For example, if your marginal tax rate is 40% and you contribute $100 to an RRSP you would expect a refund of $40, all else being equal.

TFSA: When you contribute to a TFSA you are contributing after-tax dollars (no deduction) but you will pay no taxes on income generated within this account, including capital gains.

Deciding: when deciding between the two vehicles for long-term savings you have to consider your current and future tax rates as well as the expected rate of return and savings rate. In general, if you believe you will be paying taxes at a higher rate in retirement than you are now you should contribute to your TFSA first. If you believe you will be paying a lower tax rate in retirement than you are now you should contribute your RRSP first.

As you can see from the table above we are either contributing $1000 dollars to our RRSP or $800 to our TFSA ($1000 - tax @ 20%). We grow each amount at the same rate for 20 years and find that our RRSP investment is worth more. We then make an assumption that we withdraw the funds from our RRSP and pay either 10% or 30% marginal tax. When our tax rate is higher at withdrawal time we are better off in a TFSA, when our tax rate is lower at withdrawal time we are better off in an RRSP.

In practical terms, if you are a minimum wage employee working part-time and starting to save for retirement you may not get many benefits from the RRSP because you pay little or no tax. If you are just starting to save for retirement and are a mid 40s professional, you should probably start with your RRSP.