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The core logic behind RRSP vs. TFSA contribution priorities |
A common question is: should you prioritize contributing to an RRSP or a TFSA?
In fact, there’s a relatively clear rule of thumb:
If you expect your marginal tax rate at the time of RRSP withdrawal to be lower than your current marginal tax rate, you should prioritize RRSP contributions.
Otherwise, TFSA should take priority.
The logic behind this rule
The reasoning lies in the nature of the two accounts: RRSP offers tax deferral, while TFSA provides tax-free growth but after-tax contributions.
Therefore, RRSP’s greatest tax advantage emerges when you transition from your working years (high marginal rate) to your retirement years (lower marginal rate).
The Advantages of RRSP
Even without comparing it directly to TFSA, in most cases, if you have sufficient liquidity (cash or investments in non-registered accounts), you should give priority to RRSP contributions. The reasons include:
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The younger you are, the more you should take advantage of RRSP’s compound growth early on;
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The higher your current marginal tax rate, the stronger the tax savings from RRSP contributions;
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The lower your expected tax rate in retirement, the greater the deferral value of RRSP;
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If you expect a high investment return, RRSP’s tax-free compounding can significantly boost your real returns.
In addition, the RRSP’s long-term and somewhat restrictive nature can help reinforce investment discipline and financial mindset.
When funds are limited
When liquidity is tight and you can’t contribute to both TFSA and RRSP, the decision still comes down to a comparison of marginal tax rates:
If you expect your future RRSP withdrawal tax rate to be lower than your current rate, you should contribute to RRSP first, and then reinvest the tax refund into your TFSA.
Conversely, if you expect a higher future tax rate, prioritize TFSA — though in reality, this situation is rare.
That’s because RRSP withdrawals are voluntary. If your income is high in a given year, you can simply choose not to withdraw from your RRSP, thus avoiding higher tax brackets.
For those planning early retirement, the initial years often represent a “low-income phase” (no salary income, relying only on investment withdrawals), providing an excellent window for low-tax RRSP withdrawals.
RRIF Withdrawal Considerations
An RRSP must be converted into an RRIF by age 71, after which mandatory withdrawals begin. For example:
If you have $1,000,000 in your RRSP at age 71, starting at age 72, you must withdraw at least 5.82% per year, i.e., $58,200.
This withdrawal is counted as T4RIF income and taxed as ordinary income for that year. Therefore, many people choose to start withdrawing RRSP gradually around age 60 to reduce the tax burden from mandatory withdrawals later on.
Liquidity in Non-Registered Accounts
Liquidity isn’t limited to cash. Investments such as stocks or mutual funds held in a non-registered account can be contributed to RRSP or TFSA through an in-kind transfer, helping you meet contribution limits without triggering redemption fees or missing market opportunities.
Account Differences for U.S. Investments
Many investors overlook the tax differences between RRSP and TFSA when it comes to foreign investments, especially U.S. stocks. U.S. dividends are typically subject to 15% withholding tax, treated as follows:
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RRSP: Under the U.S.–Canada Tax Treaty, U.S. dividends are exempt from withholding tax (0%);
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TFSA: Not exempt — 15% withholding tax applies and cannot be recovered;
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Non-registered account: Also subject to 15% withholding tax, but you can claim a Foreign Tax Credit when filing taxes.
Therefore, for U.S. stock–heavy portfolios, RRSP has a clear tax advantage over TFSA.
Summary
In most situations, RRSP should take precedence over TFSA, especially when your current marginal tax rate is higher than your expected retirement tax rate.
By leveraging RRSP’s tax-saving power and combining it with TFSA’s flexibility and tax-free growth, you can build a stable, tax-efficient long-term retirement strategy.
How to effectively utilize RRSP, TFSA, and RRIF — from retirement preparation to actual retirement, and through the phases of CPP/OAS collection and RRSP-to-RRIF conversion — is a valuable topic worth deeper exploration. Each person’s situation is unique, and there’s no one-size-fits-all answer.
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