Canadians have options when it comes to retirement savings. The Registered Retirement Savings Plan (RRSP) has been the standard since 1957, when it was first established to encourage saving for retirement. In 2009, however, a new retirement savings plan - the Tax-Free Savings Account (TFSA) - was introduced by Jim Flaherty, Canadian federal Minister of Finance, providing Canadians with another powerful savings method. While the goal of both the RRSP and the TFSA is the same - to help Canadians save money - each is a unique savings vehicle with plan-specific advantages. (To learn more, see our RRSPs Tutorial.)

IN PICTURES: 7 Counterintuitive Retirement Strategies That Work

The Tax-Free Savings Account
Canadian residents who are 18 years or older can contribute up to $5,000 each year to a Tax-Free Savings Account. Contributions are not deductible for income tax purposes, but TFSA savings can be withdrawn tax-free at any time and for any reason. A TFSA can hold a variety of investment instruments, including cash, stocks, bonds and mutual funds, all of which can grow tax-free for life. That means that interest, dividends and capital gains earned in a TFSA are never taxed, even when they are withdrawn.

Since the savings in a TFSA can be withdrawn at any time and for any reason, these plans are frequently used to save for purchases, such as automobiles, homes or even vacations. In addition, any money that is withdrawn can be put back into the plan in future years (but not during the same year if it would lead to over-contribution and a penalty tax). (To learn more, see Tax-Free Accounts Make Saving A Snap For Canadians.)

IN PICTURES: 6 Things You're Doing To Delay Your Retirement

The Registered Retirement Savings Plan
Canadian taxpayers each year can contribute up to 18% of the previous year's earned income plus any unused contributions from previous years to a Registered Retirement Savings Plan - up to a yearly maximum contribution limit. The contribution limit for 2010, for example, is $22,000, and is set for each tax year. Contributions are tax deductible, and earnings grow tax-free inside the plan; however, withdrawals are taxed. Since withdrawals are typically made during retirement and when participants are earning less money, it is likely that lower-tax brackets will apply, resulting in less tax liability. Like TFSAs, RRSPs can hold a variety of assets including cash, guaranteed investment certificates (GICs), mutual funds, stocks and foreign currency.

Because RRSPs are tax-deferred savings vehicles, these plans are ideal for taxpayers who expect to have a higher tax rate when the money is put into the plan versus when they will take money out of the plan. Figure 1 shows a comparison of the basic features of the Tax-Free Savings Plan and the Registered Retirement Savings Plan.





Registered Retirement Savings Plan
Tax-Free Savings Account

Minimum Age
No minimum age, as long as there is earned income
18 years or older

Maximum Age
Must cash out, convert to RRIF or purchase an annuity by December 31st of the year the participant turns 71
No maximum age

Tax Deductible Contributions
Yes
No

Tax-Free Accumulation
Yes
Yes

Tax-Free Withdrawals
No
Yes

Contribution Limit
18% of earned income, plus previous years\' unused contributions, up to $22,000
$5,000, plus previous years\' unused contributions. Limits will rise in $500 increments to account for inflation

Contribution Room
Withdrawals do not make room for more contributions
Withdrawals do make room for the next year\'s contributions

Allowable Investments
Stocks, bonds, mutual funds, index funds, ETFs, GICs, savings accounts, etc
Stocks, bonds, mutual funds, index funds, ETFs, GICs, savings accounts, etc

Figure 1: A comparison of the basic features of two popular Canadian retirement savings plans, the Registered Retirement Savings Plan and the Tax-Free Savings Account.

Bottom Line
Both RRSPs and TFSAs offer Canadians powerful means of saving for retirement. The Registered Retirement Savings Plan, which has been around for more than 50 years, provides an upfront tax incentive, since contributions are tax deductible. Withdrawals made during lower-earning years generally result in reduced tax liability. Tax-Free Savings Accounts, on the other hand, offer no upfront tax incentive, but since withdrawals can be made at any time tax-free, they provide a practical means of savings for retirement or even for large purchases. Canadians are not limited to choosing one plan over the other, and many opt for both plans to meet their savings and retirement goals. (For more, see 5 Retirement Questions Everyone Must Answer.)

Related Articles
  1. Insurance

    Which Kind of Life Insurance Is Best for You?

    Parse the pros and cons of different policy types to ensure the best coverage for your needs.
  2. Investing

    Redefining the Stop-Loss

    Using Stop-losses for trading doesn’t mean ‘losing money’, but instead think about the money you'll start saving once you learn how they work.
  3. Term

    What are Pension Funds?

    A pension fund is a company-sponsored fund that provides income for employees in retirement.
  4. Budgeting

    10 Ways to Save Money at the Farmers' Market

    Strategic shopping can help your budget as well as your health.
  5. Savings

    6 Ways to Save Money on Back-to-School Stuff

    Those school-supply lists just keep getting longer each year. Here's how to shop smart.
  6. Professionals

    Top Questions to Ask When Choosing a Robo-Advisor

    Think a robo-advisor might be the right choice for you? Be sure to ask these questions first.
  7. Insurance

    Picking the Best Longevity Insurance

    What you need to know before buying a "reverse life" policy.
  8. Insurance

    How to Shop for Home Insurance

    Tips for getting the best protection for your place and possessions.
  9. Investing

    Should You Trust a Robot to Manage Your Money?

    Robo-advisors offer several benefits, but should investors trust a computer to manage their investments?
  10. Professionals

    Save Your Retirement from Unscrupulous Advisors

    The best way to avoid IRA sabotage caused by high fees and advisors selling expensive investment products? School yourself. Here's how.
RELATED TERMS
  1. Linked Transfer Account

    Accounts held by an individual at a financial institution that ...
  2. Pension Risk Transfer

    When a defined benefit pension provider offloads some or all ...
  3. Foreign remittance

  4. Marginal Propensity to Save

    The proportion of an aggregate raise in pay that a consumer spends ...
  5. Provident Fund

    A compulsory, government-managed retirement savings scheme used ...
  6. Rollover IRA

    A special type of traditional individual retirement account into ...
RELATED FAQS
  1. How does the trust maker transfer funds into a revocable trust?

    Once a revocable trust is created, a trust maker transfers funds or property into the trust by including them in a list with ... Read Full Answer >>
  2. How is marginal propensity to save calculated?

    Marginal propensity to save is used in Keynesian macroeconomics to quantify the relationship between changes in income and ... Read Full Answer >>
  3. What is the importance of residual value in an automobile lease?

    The residual value of a car is often used by banks and auto dealerships to determine how much to charge per month for a lease. ... Read Full Answer >>
  4. How should I invest the money I keep on my IRA?

    For individuals who are just starting to save, certificates of deposit can be a good place to start, but the interest rates ... Read Full Answer >>
  5. Why choosing the right investment advisor is crucial for your portfolio's health

    Just as finding a good mechanic will help keep your car running smoothly, finding a good broker or financial advisor can ... Read Full Answer >>
  6. What documents I need to transfer an IRA/SEP/SIMPLE to a Traditional IRA?

    Most firms require that you complete their account transfer request form, which they use to request the transfer of assets ... Read Full Answer >>

You May Also Like

Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!