# How do I determine my optimal RRSP contribution level?



## superdude (Nov 13, 2021)

Hi everyone,
I have spent hours researching my situation prior to reaching out on here.
I want to validate the course of action I plan on taking and will very much appreciate your informed opinion on this.

My situation: 38yo, single, with a maxed out TFSA, and about 100k in RRSP. reside in Ontario
I am preparing for my tax bill for year 2021. Below are some details
Employment and interest income: ~205,000
Capital Gains: ~215,000
Eligible dividends: ~30,000
Income tax that has already been paid: ~74,000
My RRSP Contribution Limit available: ~107,000

I have entered these numbers into this calculator:
Tax calculator

then I did a bunch research on the following questions:

Would it make sense for me to contribute to my RRSP? Especially considering that any money I withdraw from my RRSP will be taxed as normal income vs the Capital Gains tax - where half the gains aren’t taxed.
If yes, what should be the optimal amount that I should contribute for year 2021?

Below are my findings:

In short, yes I should definitely contribute to my RRSP despite my big concern around the tax implications when withdrawing from my RRSP at a future date. According to the calculator I linked above, if I contribute 0 dollars to RRSP, I would pay ~68k in taxes. If I contribute a 107k to my RRSP, my tax bill will be ~10k. This is means I’ll pay 58k less in taxes. Even If I simply just take out the 100k I contributed this year next year and pay 54% income tax on it, I’m almost no worse off. So the moment I start earning money on it, i’m better off.
I am not entirely sure on the answer to the second question and would def appreciate some input: im thinking that I should contribute the maximum amount I can ~107k.
any other tips you’d share that would help from a taxation perspective would be highly appreciated.

Thanks,


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## AltaRed (Jun 8, 2009)

Given your level of income, it is a no brainer to contribute and deduct $107k (or at least deduct most of it) to your RRSP. Remember that you don't have to take the deduction for all of the contribution this year. You can carry forward some deductability to a future year if $107k drops to a lower marginal tax rate. Tax deferment to age 71+ and beyond (when converting to a RRIF) is almost always a good idea because you are also investing the government's share (the tax credit) and getting a return on that investment for that period of time as well. You also have no idea what the cap gains inclusion rate will be in the future. It could stay at 50%, move to 75% or to 100% and back half a dozen times in the next 30+ years. Not likely to change that often but it is almost a certainty it will go up at some future date as it was pre-20001 per Inclusion rates for previous years - Canada.ca

The only time contributions/deductions to an RRSP become questionable is if your marginal tax rate in retirement will be higher than that when you contribute to an RRSP. This debate has raged for decades

Edit: Corrected a brain phart (my underline) as alerted to by a CMF member


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## ian (Jun 18, 2016)

Also keep in mind that the deadline for RSP is not year end, December 31. 

You can deposit in February and then have the choice as how you apportion between tax years 2021 and 2022. It might give you an opportunity run the numbers through a 2021 tax program.

As an aside, I had limited RSP opportunities because of my employer DB plan. I only used them when my tax hit the highest incremental tax level. Then it was a decision between regular or spousal RSP.


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## OptsyEagle (Nov 29, 2009)

As AR indicated above you can contribute $107,000 and not deduct it all for 2021. We all want to reduce the tax payable to the lowest amount but we need to consider that objective over a lifetime as opposed to each tax year.

So my question is what do you intend to do in 2022? For example, for you to owe $10,000 in taxes, after the max. RRSP contribution, it means that you were able to get your taxable income down to around $58,000. At that income level your marginal tax rate would be around 30%. Next year, if you earn $205,000 again your marginal tax rate would be around 48%. If you were not planning on maximizing your RRSP in 2022, then I would consider moving some of that $107,000 contribution into that taxation year.

The reason is easy to see using simple math. If you move $10,000 of deductions from 2021 to 2022, you would owe $3,000 more in taxes in 2021 but save $5,800 in taxes in 2022. So you give CRA $3,000 this year and they give you back $5,800 next year. I am pretty sure it would be hard to find an alternative investment for that $3,000 offering a 93% rate of return, fully guaranteed.

What the optimum deduction/carry forward amount should be I will leave to you to figure out, but that type of calculation is what I would be trying to do. As for next year, at your income level you should always be maximizing your RRSP. It is almost impossible for you to lose out by doing so.


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## OptsyEagle (Nov 29, 2009)

Perhaps a corrections to my post above. There is probably no way in this world you could reduce that taxable income you listed above, down to $58,000, just using a $107,000 RRSP contribution so I am guessing that the $10,000 of tax payable you mentioned is actually tax owing. In other words your tax payable was actually the $74,000 you already paid, PLUS $10,000 more owed, for a total tax payable in 2021 equaling $84,000.

If the above is correct then forget what I said above. Deduct the entire $107,000 in 2021.


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## AltaRed (Jun 8, 2009)

I read the OP the same way your post #5 says. The marginal tax rate is already large due to $205k in employment and other income.


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## fireseeker (Jul 24, 2017)

Top marginal tax rates generally kick in at around $220,000 in income. (There is some variance by province.)
This means that anything you can do to reduce taxable income to that level (without going much lower) will surely pay off. At best, you wind up paying no taxes at the top rate. At worst (a weird term given the context), your income remains above $220,000 now and in the future, but you still benefit from immediate tax deferral.

In your case, employment income plus dividends put you into the top bracket.
Your $215,000 capital gain at a 50% inclusion rate means another $107,000 in income -- matching exactly your available RRSP deduction.
So, ISTM that you can't lose by claiming it all in the 2021 tax year. It should be wiping out tax owing at a 53.5% rate, using Ontario as an example.

Note: Your $74K tax paid and $10K potential tax owing are red herrings for this analysis. It's your marginal tax rate that matters.


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## superdude (Nov 13, 2021)

Thank you all so much for weighing in!
@OptsyEagle and @AltaRed: you are correct in stating that my tax payable is actually the $74,000 I already paid, PLUS $10,000 more owed, for a total tax payable in 2021 equaling $84,000. I would get to pay only 10k though ONLY if I contribute the entire 107k to my RRSP.
Initially, I was wrestling with the whole idea of whether to contribute to an RRSP vs not. That become easily a yes I should. Subsequently, I have been debating how much to contribute. Eg: should I contribute 107k or should I instead contribute 90 or 80k this year and save more RRSP contribution room for subsequent years? it sounds like you recommend that I max it out - contribute 107k.
As far as my employment and interest and dividends income, I do not think it'll change much next year - who knows of course. I do *not* though anticipate that i'll make nearly as much in capital gains in 2022 as I did this year - maybe 50k for 2022. 
Also, I forgot to deduct ~20k in investment expenses which should bring my investment income to 195k. 
Still based on the above, it sounds like I should still do the maximum contribution for 2021. 
@ian thank you for the tip - didn't think of it tbh. However, I was thinking of doing my RRSP contribution this monday because I want to do a transfer in kind from my non-registered account to my RRSP. The positions that I am transferring have losses on them currently. This way I can declare the transactions as capital losses - I have already factored those losses when I came up with the final capital investment income, and I contribute to my RRSP while keeping these positions and not exiting out of them and risk seeing them go up before I rebuy them if I just sell them if that makes sense. 
Thank you!


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## OptsyEagle (Nov 29, 2009)

Don't do that. 

You cannot deduct losses for shares transferred to an RRSP or TFSA. They call that a superficial loss and deny the ability to use them to offset capital gains. Those investments must be sold and rebought if you want the benefit of losses from those shares and to add another level of insult, they cannot be rebought within 30 days of the sale. Again, they call it a superficial loss. You can google that to get more information on the issue.


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## AltaRed (Jun 8, 2009)

OptsyEagle said:


> Don't do that.
> 
> You cannot deduct losses for shares transferred to an RRSP or TFSA. They call that a superficial loss and deny the ability to use them to offset capital gains. Those investments must be sold and rebought if you want the benefit of losses from those shares and to add another level of insult, they cannot be rebought within 30 days of the sale. Again, they call it a superficial loss. You can google that to get more information on the issue.


Totally agree! That would be a major investing mistake. One only contributes cash or securities with gains to a registered account. The only other option right now in December would be to sell the losers, contribute the cash to the RRSP and wait 30 days until mid-January to re-purchase in the RRSP. Not that it matters, but I always used to contribute cash to my RRSP and buy as and when I wish.


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## ian (Jun 18, 2016)

Apart from all of the above I would caution you to always think past that single box of tax avoidance or incurring tax and include other factors that pertain to money, investments.

I was extremely foolish in the 90's. I bought into a media based tax shelter. My eye was on the tax avoidance. I had a good earning year. Not so much on the veracity of the investment. Looking back I realize that this was the thrust of my broker's pitch. I was lucky. Only two things kept me even the the project. The first was it happened to be the best performing year of this fund as I later discovered.. That helped. The real kicker was that all of the tax breaks came when we lived in BC. The marginal tax rate was 52ish. The monies that came back into income in 2000's came when we lived in Alberta. Their top rate was 39 percent. That gave me 13 point advantage that I otherwise would not have had.

I had colleagues who failed to exercise stock options in a timely fashion simply for tax reasons even though the tax treatment was the same as capital gains. Some did not realize nearly the value that they could have, should have had their exercise criteria not been focused solely on tax consequences.

And if you are not certain....don't be afraid to pay for professional advice. Tax or otherwise. Due diligence pays dividends in my experience.


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## superdude (Nov 13, 2021)

wow, thank you @OptsyEagle @AltaRed you helped me dodge a *big *mistake. 
and thank you @ian: totally agree on the value of *informed and quality *professional advice. Getting that has been elusive to me. Have dealt with a few accountants in the past and it always felt both rushed and that I had to provide a lot information and do a lot of thinking on my own. I never felt that any of them had the patience to spend as much time as I did, trying to understand the intricacies of my situation and come up with the best course of action. 
Having said that, if you have any solid recos, let me know. Pays to have an expert in the tax field - I do have a financial advisor who's focused on investments.


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## ian (Jun 18, 2016)

If it were me I would do nothing until Feb. I would then do a proforma tax return with a tax program.. By then everything pertaining to your return other than RSP will be baked. I would leave it, then go back several days later and review it for accuracy.

IF you believe that you are missing any T3 or T5 slips you can go into your on line CRA account and see what the FI's have submitted to CRA but not yet sent to you.

I would review my position vis a vis the top incremental tax rate to determine how much I wanted to reduce my taxable income. I would only contribute that amount to my RSP. Keep any remaining funds non registered for next year or TFSA.

Make the RSP deposit, enter the number on your return and submit the return electronically. No need to wait for an RSP receipt...it will arrive eventually and well within the CRA electronic matching process. Your T4 will be processed in two weeks or so (my experience) and any monies due directly deposited in your account....if you have this option set up.


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## TomB16 (Jun 8, 2014)

I have come to respect some of the folks offering responses but I have a *potentially* conflicting point of view.

The RRSP is, by far, the most use when it can be used to go down a marginal tax bracket and also if your post retirement income is lower than your earning income. In this way, you are paying less tax. If your taxable income is as high in retirement as it is during the earning years, you are simply deferring tax with no benefit.

You could contribute enough to move down one bracket, and that would probably be smart, but that is a substantial number and your RRSP is going to build very quickly. If you are a decent investor, it won't be many years before your RRSP soars beyond $1M and you will have a substantial tax liability unregistering that money.

We stopped contributing to our RRSPs when they hit a certain level but the bull market caused the numbers to soar, like everyone, and now the tax saving of the RRSP mechanism will be diminished.

Our non registered investing (real estate) is far more valuable to us now, than our registered savings. That $1M RRSP might only be worth $700K of spendable money, even with careful tax planning. Whereas, our R-E proceeds spend closer to face value and the government was kind enough to carry some of the risk in the form of tax mitigation if we had encountered a negative return.

These are things to consider when designing your life finances. If you are considering a business or non-registered investment, it might make sense.


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## ian (Jun 18, 2016)

TomB16 said:


> I have come to respect some of the folks offering responses but I have a *potentially* conflicting point of view.
> 
> The RRSP is, by far, the most use when it can be used to go down a marginal tax bracket and also if your post retirement income is lower than your earning income. In this way, you are paying less tax. If your taxable income is as high in retirement as it is during the earning years, you are simply deferring tax with no benefit.
> 
> ...


Agree. Our personal financial situation changed considerably in my last ten years of working. It has made me question the rear view wisdom of my RSP's. It was not a huge issue for me because my RSP was limited by my DB plan. Ditto for deciding on a spousal plan because of pension sharing, spousal loans, TFSA's.

IF I had been able to see into the future I sometimes wonder whether I would have taken advantage of RSP's-spousal or otherwise. There might have been a more prudent course of action.

OTOH, RSP's have proven to be an ideal vehicle for my BIL, now in his late 70's, because he did not have a private pension plan and his income was fairly steady throughout his working life. Whatever a person does, the trick is to start thinking about it, understanding the options, and actually invest for retirement as early as possible.


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## superdude (Nov 13, 2021)

Great stuff - this is generating quite a few ideas on my side.
@TomB16: I had a quick chat with a colleague this week. He was telling me how he just bought his second rental investment property.
I myself have no investments in real estate yet- been waiting literally for 10 years for that elusive correction. So I told him: "one of my biggest problems with investment in the real estate now is that the cap rate doesn't make sense because of the current prices"
He replied: "I totally agree. Our first rental property has a much healthier net cash flow as opposed to this one that we're buying just because of what we paid for this one vs what we paid for the previous one and the cash flow each one will generate. This purchase though is helping me with my taxes. Since i'm in the top tax bracket, it's like im investing money that I otherwise would pay to the government"

Is this what you were suggesting in your reply? I mulled over his comment quite a bit to see if it would motivate me to bite the bullet and get into the real estate market now but I haven't fully grasped the logic unless he was alluding to mortgage interest payment and other expenses helping possibly bring his taxes down. Even then though, what if the market chooses to finally correct?
I hope that makes sense. thanks


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## AltaRed (Jun 8, 2009)

TomB16 said:


> Our non registered investing (real estate) is far more valuable to us now, than our registered savings. That $1M RRSP might only be worth $700K of spendable money, even with careful tax planning. Whereas, our R-E proceeds spend closer to face value and the government was kind enough to carry some of the risk in the form of tax mitigation if we had encountered a negative return.


That is a red herring. You were also investing the tax credit the government was giving you with a tax deferral. The $1M was never all yours to begin with. Time and again, it has been demonstrated that for equivalent tax brackets the math for the TFSA and RRSP are financially equivalent. Both are also better than non-registered. It doesn't matter though since we are creatures that are influenced by what we have now and their likely future impacts.


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## Plugging Along (Jan 3, 2011)

ian said:


> Agree. Our personal financial situation changed considerably in my last ten years of working. It has made me question the rear view wisdom of my RSP's. It was not a huge issue for me because my RSP was limited by my DB plan. Ditto for deciding on a spousal plan because of pension sharing, spousal loans, TFSA's.
> 
> IF I had been able to see into the future I sometimes wonder whether I would have taken advantage of RSP's-spousal or otherwise. There might have been a more prudent course of action.
> 
> OTOH, RSP's have proven to be an ideal vehicle for my BIL, now in his late 70's, because he did not have a private pension plan and his income was fairly steady throughout his working life. Whatever a person does, the trick is to start thinking about it, understanding the options, and actually invest for retirement as early as possible.


This is the challenge with retirement planning for the future. What you do or don't do early on for retirement, has the biggest impact in the future, but because it's the furthest time from retirement, has the most unknown. Hindsight is 20/20 so the best one can do is plan for the scenarios that may apply and readjust. 

For me, my old work had a DC and DB choice. When I was younger, I always assumed I would jump corporations and never retire with one company and would probably want to start my own company, so took the DC. I moved, and my next job was DB and I could have ported over my DB if I had signed up. So now, I will be short my 85 factor when I plan to retire earlier. We have always maxed out RRSP's due to our tax brackets, and that seems like a good idea so far as we are planning retirement in lower tax brackets than we are now. 

I also thought I would have more real estate than I do now. My dad has primarily planned his retirement based on his real estate (he was self employed so no pensions of hardly any kind). This seems to have played out well for the first 30 years of his retirement, but now as they enter their last stage in life, it's playing out differently than how they planned. 

One sibling maxed out in RRSP, TSFA, as an employee. Then ventured into starting their own companies. Now they are in a strange position that the are making many folds what they were when working. They have too much in every area for RRSP, corporations, real estate, and dividends, non registered, trusts, you name it. They have said RRSPS will not make it more difficult, the tax planning. However, one of the reasons they said they ventured out later in age was that their RRSP's were enough for them to have an okay retirement, which gave them the confidence to go and try to make it really big. So a good problem to have here. 

My former coworker who I helped with some retirement planning left with a full pension, and a large RRSP and non registered. She is spending hardly her pension and her savings keeps growing. He regular advisor has been trying to get her to take out money from her RRSP because she is going to get hit with a huge tax bill later. RRSP probably were not the best idea for her. We have been kidding that she needs to take on some expensive bad habits such as gambling, impulse buying, maybe some expensive addiction. 

IF any of us could see the future, then it would be easier. Since we can't, the most prudent action as you said is to educate yourself, and save earlier on. I personally think its worst to not have enough than too much have to pay more tax than we needed.


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## superdude (Nov 13, 2021)

Plugging Along said:


> This is the challenge with retirement planning for the future. What you do or don't do early on for retirement, has the biggest impact in the future, but because it's the furthest time from retirement, has the most unknown. Hindsight is 20/20 so the best one can do is plan for the scenarios that may apply and readjust.
> 
> For me, my old work had a DC and DB choice. When I was younger, I always assumed I would jump corporations and never retire with one company and would probably want to start my own company, so took the DC. I moved, and my next job was DB and I could have ported over my DB if I had signed up. So now, I will be short my 85 factor when I plan to retire earlier. We have always maxed out RRSP's due to our tax brackets, and that seems like a good idea so far as we are planning retirement in lower tax brackets than we are now.
> 
> ...


Great insights and thanks for sharing - love the anecdotes from real life that you shared. really resonated with me - esp your sibling who felt they had the safety of a healthy RRSP to take on the risk of starting a business and give it a go.


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## TomB16 (Jun 8, 2014)

AltaRed said:


> That is a red herring. You were also investing the tax credit the government was giving you with a tax deferral. The $1M was never all yours to begin with. Time and again, it has been demonstrated that for equivalent tax brackets the math for the TFSA and RRSP are financially equivalent. Both are also better than non-registered. It doesn't matter though since we are creatures that are influenced by what we have now and their likely future impacts.


This is a direct misrepresentation.

RRSP and TFSA are completely different mechanisms that represent completely different opportunity vectors. While numbers can be found that will make the two mechanisms equally beneficial, they are no where near equally beneficial at the income extremes, nor are they equal in all situations. Mr. Dude is on the super end of the income scale so the RRSP is far less likely to be the better choice, although it may well still be.

Superdude:

1) Yes, I think you are generally picking up what I'm throwing down.
2) I do not... repeat... do not recommend you get into real estate investing. Renters suck and it isn't for the vast majority of people. Residential R-E is an extremely individualistic and impactful lifestyle choice. Commercial R-E can be far less so but it has a few of it's own pitfalls. So, it _may_ be something good for you but it is extremely unlikely.
3) There is no substitute for understanding the mechanisms and put keyboard to spreadsheet with your own projections of your own ideas. I've done this for many years; that's how I know how this works. This modeling experience enables me to cut through the nonsense and superstition that permeates financial discussions. It is also why I would never provide absolute guidance to anyone, because there are a lot of variables.
4) Please notice, I did not advise you to go one way or the other. I just pointed out some benefits and drawbacks of various arrangements.
5) If you decide to do your own projections, you will find they change over the years as they become more sophisticated. For example, we are sitting on a ton of near cash. This tipped the balance commuting one of our pensions, as we can easily adjust our RIF/LIF/PLIF income to optimize the tax liability that goes with the process of commuting a pension. The point being, some people would criticize me for having a bunch of ultra-low earning cash at the outset of retirement but some of that cash enabled another opportunity so that needed to be considered.

It really comes down to understanding how things work and coding your ideas into a spreadsheet. Then, create a new page and work on a different idea. Is it better? If yes, the new idea is your new way forward. If no, move onto the next new idea.

This is where forums come in. The web is where you can pick up a ton of ideas, decide if they will fit into your life, and then model them for benefit/detriment.


Kind regards to all.


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## TomB16 (Jun 8, 2014)

Mr. Superdude

In case you are still following, I'd like to prattle on a bit more....

I'll start with the idea that being right is wrong. Things that pencil out one way might easily be better or worse than designed, for various life reasons.

I first thought I could retire in 2003. It would have been spartan as Hell but I had a side business and some real estate. It probably would have been adequate but far from affluent. I was in my very early 30s.

Between 03 and 10, my reason for existence was to save money, build up my RRSP, and grow my R-E operation. I pumped that balloon up with the idea of retiring in 2010.

That's when I met my current wife. She loved her career. It was part of who she was. I ended up going back to work on contract as a lifestyle choice and made a lot of money for several years.

That bashed in the headlights of the original retirement car. I had it all planned and then I changed direction. My RRSP was getting big. I could see I was not going to have the light tax load I anticipated and it became clear OAS was completely out the window. More importantly, I was having a good life with someone who made me happy.

So, I ended up using an ultra low interest RRSP loan to finance some additional R-E projects. Instead of charging yourself a ton of interest to build up the RRSP, as everyone but me seems to think is good, I went the other way. I used the lowest interest rate the bank would allow. Don't forget, money that goes into your RRSP (after tax, in the case of an RRSP mortgage), is taxed on the way out. That allowed us to build up quite a bit more equity unsheltered. It didn't fix the problem but it has helped quite a bit.

Speaking of superstition and nonsense, every bank I went to told me RRSP mortgages are not legal, the government shut them down, etc. I spoke with a couple of dozen different people. They didn't even have to think about it. They said it as though they knew. Bank staff tend to have laser like knowledge of specific things and extreme little knowledge outside their normal process. Notice, "tend to".

There are some super sharp people who work at banks. I've just never met them when I've been in front of the counter. Nothing wrong with these people specifically but I've never met someone working in bank retail who I wanted to take financial advice from. I used to work in fintech so I've met a small handful of back office folks who blew my hair back with their knowledge and prowess. These people literally changed my life and not one of them told me what to do. They just shared ideas, just as I am trying to share with you. The difference being, they are smarter than me.

Ideas are tools. You have to know how to use them. It is clear you are going to do extremely well.


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## AltaRed (Jun 8, 2009)

TomB16 said:


> This is a direct misrepresentation.
> 
> RRSP and TFSA are completely different mechanisms that represent completely different opportunity vectors. While numbers can be found that will make the two mechanisms equally beneficial, they are no where near equally beneficial at the income extremes, nor are they equal in all situations. Mr. Dude is on the super end of the income scale so the RRSP is far less likely to be the better choice, although it may well still be.


For the same tax rate, which is how I qualified it, they are equivalent.
TaxTips.ca - TFSA vs RRSP - Which is Better? and per How your tax bracket decides whether a TFSA or RRSP is best


> From an after-tax perspective, most people would likely be indifferent between an RRSP and a TFSA. That’s because most people are in the same tax bracket when working and when retired. When comparing RRSPs and TFSAs, remember that the former gets you a deduction on the way in (i.e., when contributing), but is taxable on the way out (i.e., when making a withdrawal). As a result, the tax consequences are a bit like the old Fram auto filter commercials—“you can pay me now, or you can pay me later”. Perhaps I’m dating myself.


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## TomB16 (Jun 8, 2014)

Putting something on the Internet does not make it fact.

Again: Keyboard to spreadsheet. What you learn in the process of modelling different scenarios will literally change your life.


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## TomB16 (Jun 8, 2014)

Back in about 1980, somebody posted an article on the then new RRSP mortgage in the Globe and Mail. In the article, the author mused that fees and overhead rendered the mechanism worthless below about $50,000.

That article has been cited many times over the years and people spit that number out as though it is fact. The idea can be traced to one man who mused it 21 years ago.

Suffice to say, my own calculations do not corroborate that number. Oddly, I have quite a bit of respect for the original story. That's where I got the idea to do it and I believe he did a good job going over various aspects of it. Unfortunately, that article was turned into a sound byte and subsequently weaponized over the years. This is something I have less respect for. I'm really glad I went to the time and effort of modelling the idea and how it fit into my life.


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## superdude (Nov 13, 2021)

Completely agree @TomB16 . Already did a bit digging into mortgages and RRSP, so thanks for sharing all of this!


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## Eclectic21 (Jun 25, 2021)

TomB16 said:


> Back in about 1980, somebody posted an article on the then new RRSP mortgage in the Globe and Mail. In the article, the author mused that fees and overhead rendered the mechanism worthless below about $50,000.
> 
> That article has been cited many times over the years and people spit that number out as though it is fact. The idea can be traced to one man who mused it 21 years ago ...


I remember reading about RRSP mortgages in the late '90's. Those articles outlined fees but made no comment on minimum amounts to make it worthwhile.

I'm also not sure how it is a 21 year old idea, when a 1990 article would be 32 years old. 


Cheers

*PS*
'Course with maybe $7K in my RRSP, the HBP was easier to use.


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## james4beach (Nov 15, 2012)

I have a different question about the optimal RRSP contribution. I'm having trouble wrapping my head around this question.

Let's assume my future tax rate (at RRSP withdrawal) is the same as my current tax rate and let's call it 30%.

I have the choice today to put $10,000 into my RRSP. If I contribute, there's a tax liability of 30% many years from now, about 30 years.
If I don't contribute and don't take that deduction, then I pay $3000 more tax to CRA *today* and have $7000 left to invest non-registered.

At first I thought, well if the rate is going to be the same, there is no tax advantage of the RRSP, so I should just pay the $3000 today.

But then I thought, even at the same tax rate, isn't the RRSP still preferable because going the non-reg route, one would additionally pay cap gain tax on the growth of that money?


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## GreatLaker (Mar 23, 2014)

james4beach said:


> I have a different question about the optimal RRSP contribution. I'm having trouble wrapping my head around this question.
> 
> Let's assume my future tax rate (at RRSP withdrawal) is the same as my current tax rate and let's call it 30%.
> 
> ...


Non-registered accounts get eroded by taxes on both dividends and capital gains. Say an investor has a Canadian dividend focused non-registered account with a 4% yield. Many investors like Canadian dividends in non-registered accounts because of favourable tax treatment on eligible dividends, and it would not be hard to get a 4% yield. For an investor with $100k income in ON, the tax rate on dividends would be about 25%. 0.25 x 0.04 = 0.01. So 1% of the account is lost to dividend taxes every year. Compounding that at 0.99^n where n = your investing timeline to see the amount of the portfolio that would be eroded by dividend taxes. Then you pay capital gains taxes on top of that. The longer the money is invested, the more those losses are compounded.

On the other hand, RRSP withdrawals are taxed as income, so they can cause loss of income tested retiree benefits like GIS, OAS and Ontario Trillium Benefit. If an RRSP grows too large, it may drive the retiree's tax rate higher when mandatory RRIF withdrawals begin at age 71, or if a large RRSP balance remains at end of life, it can cause a large tax bill for the estate.

A long, lifecycle view is needed to determine an optimum RRSP level.

Michael James on Money did a good article on tax efficiency of RRSP, TFSA and non-registered accounts.
Debunking RRSP Myths with Pictures


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## Covariance (Oct 20, 2020)

james4beach said:


> I have a different question about the optimal RRSP contribution. I'm having trouble wrapping my head around this question.
> 
> Let's assume my future tax rate (at RRSP withdrawal) is the same as my current tax rate and let's call it 30%.
> 
> ...


Cap gains tax is 1/2 marginal rate (currently). That said and assuming the same pre-tax return in a non-reg and RRSP the non-reg is superior for cap gains if, and only if, the holding periods are extremely long. (Also assuming your tax rate is the same now and when you withdraw from the RRSP). While the tax rate is one half the marginal rate, it reduces the amount available to compound in future periods. You can model your own holding periods and investment strategy to get a sense for the impact.


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## james4beach (Nov 15, 2012)

GreatLaker said:


> Non-registered accounts get eroded by taxes on both dividends and capital gains


Thanks @GreatLaker and @Covariance for the replies. Maybe I should model my holding period.


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## GreatLaker (Mar 23, 2014)

Here is a very simple example over 1 year.
Basis of calculations:

MTR = 40%, same at deposit and withdrawal, about what it would be for someone in ON earning $100k
Return = 10%, of which 6% is capital gains and 4% is dividends. 
Tax rate on dividends = 25%, about what it would be for someone in ON earning $100k
Tax rate on capital gains = 50% of MTR = 20%
(The return may be high by historical standards, but it simplifies the example.)
TFSA:

Earn $10k before tax, pay $4k tax
Contribute $6k after tax to TFSA
1 year later at 10% return withdraw $6.6k,no taxes due
RRSP:

Earn $10k before tax
Contribute $10k to RRSP
Receive $4k tax refund, so net out of pocket $6k, same as TFSA
1 year later at 10% return, withdraw $11k
at 40% MTR, pay $4.4k tax
After tax value $6.6k, same as TFSA
For simplicity, ignores the out of pocket $4k between contribution and tax refund, unless contributions are made through a group RRSP, in which case the employer would not withhold taxes on contributions
Non-registered (taxable) account:

Earn $10k before tax, pay $4k tax
Contribute $6k after tax to non-reg account
1 year later at 10% return withdraw gross amount before investment taxes = $6.6k
Of the $600 investment return, $240 = dividends. 25% tax on dividends = $60
Of the $600 investment return, $360 = capital gains. 20% tax on capital gains = $72
Net return after tax = $6,600 - $60 - $72 = $6,468
After tax return on TFSA and RRSP are equal. Non-registered account is worth $132 less after one year because of investment taxes. This discrepancy will increase over the years due to compounding. Frequent trading will increase the difference because capital gains will be realized sooner.


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## james4beach (Nov 15, 2012)

GreatLaker said:


> After tax return on TFSA and RRSP are equal. Non-registered account is worth $132 less after one year because of investment taxes. This discrepancy will increase over the years due to compounding. Frequent trading will increase the difference because capital gains will be realized sooner.


Thanks, very interesting and looks similar to my first shot at calculating this.

The note about frequent trading is noteworthy. This touches on a behavioural issue for me, which is that I have been far more disciplined about leaving long term index positions alone in my RRSP. This is just psychological perhaps, but I really do use the "perfect" passive asset allocation strategy in my RRSP.

In non-reg, because the assets are accessible, I tend to do more shuffling around (every few years) which does indeed incur capital gains as you have pointed out.

Another behavioural issue tied to this is that I believe I might actually expect _superior_ long term returns in my RRSP, purely because I am able to stick to the long term view, unimpeded.

At the moment I'm still leaning towards using the RRSP, even for equal tax rates in the future. My RRSP is not enormous (it's under 500K) so I don't anticipate any serious "problems" at withdrawal time.


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## Covariance (Oct 20, 2020)

GreatLaker said:


> Here is a very simple example over 1 year.
> Basis of calculations:
> 
> MTR = 40%, same at deposit and withdrawal, about what it would be for someone in ON earning $100k
> ...


If the holding period is longer that one year in the non-reg account, all else being equal the effective tax drag drops. This is because the capital gains compounds at the pre tax rate of return (6% using your example). Only in the year in which one exits do they pay tax.


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## GreatLaker (Mar 23, 2014)

Covariance said:


> If the holding period is longer that one year in the non-reg account, all else being equal the effective tax drag drops. This is because the capital gains compounds at the pre tax rate of return (6% using your example). Only in the year in which one exits do they pay tax.


The one year scenario was just an example to demonstrate in the easiest possible way the tax drag if the investor withdrew cash after a year. In a multi-year scenario the dividend taxes are paid annually and increase each year as the principal grows, then capital gains tax is payable whenever gains are realized as stated in post #28 above. 

I don't understand why the tax drag would drop for longer holding periods. In my modelling the non-reg account trails by larger amounts every year as the tax on dividends must be paid annually.


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## Covariance (Oct 20, 2020)

GreatLaker said:


> The one year scenario was just an example to demonstrate in the easiest possible way the tax drag
> 
> I don't understand why the tax drag would drop for longer holding periods. In my modelling the non-reg account trails by larger amounts every year as the tax on dividends must be paid annually.


Understand. Just an example and a good one but as a single period model it overstates after tax impact on capital gains/appreciation in a non-reg account.

Capital gains taxes are realized at the end of the holding period. The after-tax capital accumulation is higher (than it would have been if one realized capital gains each year) as the holding period increases.

For instance if we just focus on the return to capital gains from your example. Capital gains return is 6%/year, and tax on capital gains is 20%. Ignore dividends, interest for the moment to emphasize the point. Take two scenarios - a 20 year holding period and a sequence of one year holding periods for 20 years;
A dollar invested today purely for capital gains will be [ (1.06)^N x (0.8) + (0.2) ], or for 20 years $2.77 after tax. Whereas if gains are realized each year and taxes paid each year, after 20 years one would have $2.55 [ (1+0.6(0.8))^20 ]


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## londoncalling (Sep 17, 2011)

superdude said:


> Hi everyone,
> 
> 
> I have entered these numbers into this calculator:
> Tax calculator


Thought I would note that the calculator in the link above is from 2020. It is likely the calculator will update for 2021 soon.


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## james4beach (Nov 15, 2012)

GreatLaker said:


> Here is a very simple example over 1 year.
> Basis of calculations:


Do you think the following is a reasonable way to look at it? This shows me a significant benefit of the RRSP, even if we forget about dividends.

Say I'm starting with 10K. Investment returns 6%, time span 20 years, and the tax rate both now and in the future is 30%.

*Option 1*: put it all in the RRSP and get the deduction. It will eventually grow to 10K * 1.06^20 = $32,071 and after the government takes 30% tax, my part of it = *$22,450

Option 2*: don't put it in the RRSP, so relative to the base case Option 1, I didn't get a tax deduction. This means I have a tax bill _today_ of 3K which leaves me with 7K to invest non registered. If we assume negligible dividends, this grows to 7K * 1.06^20 = $22,450 but that is before taxes. This has a taxable capital gain of $15,450. Even at the generous 1/2 inclusion rate, there's an associated tax bill of $2,318 which leaves me with only *$20,132*


_Isn't the RRSP guaranteed to win, _at same tax rates? In this example over 20 years, that's 12% more money by using the RRSP.


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## GreatLaker (Mar 23, 2014)

james4beach said:


> Do you think the following is a reasonable way to look at it? This shows me a significant benefit of the RRSP, even if we forget about dividends.
> 
> Say I'm starting with 10K. Investment returns 6%, time span 20 years, and the tax rate both now and in the future is 30%.
> 
> ...


Yes your analysis and conclusion look correct based on the inputs. Seems like an unusual situation with no investment income at all, but I think you are doing it as a proof of concept rather than a likely scenario.

Capital gains and investment income are never taxed in RRSPs so with the same tax rate for contribution and withdrawal the RRSP will have a better after-tax return. One exception I can think of is in some provinces, eligible dividends have a negative tax rate up to about $50k of dividends. If the investor had no other income and dividend stocks that had low capital gains, the non-registered account may have a higher after-tax return. That would be a rare and improbable situation though.

Other situations could make the RRSP less valuable. Higher income during retirement driving higher taxes, but the retirement tax rate would have to be high enough to overcome the advantage of tax-free investment income and capital gains. Clawback of retiree benefits. GIS starts to get clawed back at incomes over about $18k, but many low income earners have no capacity to save, and for those that do, a TFSA is probably better. There is also potential OAS clawback, between income of ~$80k and $130k. In ON, the Trillium Benefit begins to get reduced at income of ~24k for a single taxpayer or ~$30k for a single parent or someone in a marriage or common-law relationship. Most of those restrictions apply to a narrow range of incomes so for many taxpayers they would not be an issue.


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