# Something missing in RRSP vs TFSA calcs?



## Barwelle (Feb 23, 2011)

It seems that there is this assumption that, if your marginal tax rate in retirement is the same as it was in your working phase, then TFSA and RRSP are equal with regards to taxes (*IF* you contribute equal amounts of *pre*-tax income.)

But: Is it?

Take this chart for example. (From this Globe and Mail article.)

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They're assuming that the marginal tax rate of your income is 40%. Okay. And they are assuming that all of your contribution will be in the same tax bracket.

But they're also saying that the marginal tax rate when you withdraw from RRSP will be 40%. Okay... but that's not the _effective_ tax rate. The actual tax on income withdrawn is less than 40%. Why? Well, some of the income is not taxed at all, thanks to the Basic Personal Amount, and then some of the remainder will be taxed at less than 40% thanks to the other (lower) tax brackets. Only _some_ of the income would be taxed at 40%. So when they say that the tax paid on withdrawal is $1283, well, that's only true on the amount of your withdrawal that is in the 40% tax bracket.

I know that the Globe and Mail isn't always considered a credible source here on CMF, but I've seen the same example in other places as well.

On the flip side, I realize that RRSP income affects GIS/OAS clawbacks. But for this example, I'm ignoring it to keep it simple for now.

So: Is there something missing in these RRSP vs TFSA comparisons? Or am I missing something? Really, it seems to me that tax-wise, you could have a higher marginal tax rate in retirement and still break-even with the TFSA.


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## MoneyGal (Apr 24, 2009)

Yes, and in addition to the issue you've pointed out, how income is treated for tax purposes is also important in calculating someone's effective tax rate including refundable tax credits. 

For example: RRSP withdrawals are taxed as ordinary income. In the case of someone who is eligible for a refundable tax credit or social benefit such as the CCTB or OAS, which is calculated on net taxable income, they would prefer TFSA withdrawals (which are non-taxable income) versus RRSP withdrawals (taxable income). 

For much more detail, see for example this paper from the C.D. Howe Institute on marginal effective tax rates in Ontario: http://www.cdhowe.org/what’s-my-met...–-but-not-for-everyone-the-ontario-case/11348


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## MoneyGal (Apr 24, 2009)

Whoops. I see that you did address this issue in the latter part of your post. 

This is why Steve41 always says some variation of "it isn't that simple."


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## andrewf (Mar 1, 2010)

Usually you would use the marginal rate. Since all decisions are made at the margin (do I save an extra $1).

Also consider that a couple with full CPP and OAS is already above the basic personal amount, and paying at least 20% marginal (assuming Ontario).

I see your point though. There are quite a few people earning say $43k - $80k who would probably be facing a lower MTRs in retirement and would be better off with RRSPs. Under $43k probably better with TFSA.


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## andrewf (Mar 1, 2010)

This is where newspapers get into trouble. They only have 300 words to explain something, so rather than say 'it's complicated', they give essentially incorrect analysis.


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## MoneyGal (Apr 24, 2009)

I dunno. I'm sympathetic to newspaper authors, to some extent - it seems to me that we spend too much time (collectively, as a society, that is; not CMFers) debating whether a TFSA or RRSP is optimal in one scenario or another, when apparently most Canadians - or some large fraction - aren't using either to save anything!


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## Four Pillars (Apr 5, 2009)

Barwelle said:


> So: Is there something missing in these RRSP vs TFSA comparisons? Or am I missing something? Really, it seems to me that tax-wise, you could have a higher marginal tax rate in retirement and still break-even with the TFSA.


Yes, you are correct. I've written about this very topic on my blog.

The problem is that it is a relatively complicated concept (ie too much for your average joe) and as MG points out - given all the different variables, does it really matter? 

The main thing is that the right amount of money (ie an adequate amount or enough to meet your goals) gets saved for retirement - whether it gets put into TFSA/RRSP or non-reg account is a very secondary consideration in the grand scheme of things.


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## steve41 (Apr 18, 2009)

I stuck a kludge in RRIFmetic which allows you to remove tax completely from the non-reg entity: turning it into a de facto TFSA. It becomes very easy to model the RRSP vs TFSA question that way. It turns out to be somewhat of a saw-off for the average 'saving for retirement' Joe. i.e. one in which retirement savings are depleted or almost depleted at an advanced (95-100) age.


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## andrewf (Mar 1, 2010)

Then they should be harping on about saving rather than creating FUD about using TFSA vs RRSP. The decision to save is way more important than which vehicle to do it in.


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## MoneyGal (Apr 24, 2009)

Fud?


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## HaroldCrump (Jun 10, 2009)

MoneyGal said:


> Fud?


Fear, Uncertainty and Doubt


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## HaroldCrump (Jun 10, 2009)

MoneyGal said:


> when apparently most Canadians - or some large fraction - aren't using either to save anything!


Exactly - *RRSP Contributions in Decline*

http://www.thestar.com/business/per...2013/02/11/rrsp_contributions_in_decline.html


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## the-royal-mail (Dec 11, 2009)

Why would anyone let their money waste away in savings when there are $640K houses and e-junk to buy?


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## MoneyGal (Apr 24, 2009)

HaroldCrump said:


> Fear, Uncertainty and Doubt


OK, now I find it hilarious that I didn't know what that meant.


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## HaroldCrump (Jun 10, 2009)

the-royal-mail said:


> Why would anyone let their money waste away in savings when there are $640K houses and e-junk to buy?


I call bull to the reason cited in that Toronto Star article I linked above on the reasons poll participants cited for not being able to save (RRSP or TFSA).

*RBC poll documents decline as under 55s squeezed by need to fund kids' education and care for aging parents*

Um, no, sorry I don't buy that.
This is the sandwitch generation shedding crocodile tears and blaming something completely outside their control.
Kids' education (in a highly subsidized education environment like in Canda), and the increased longevity of the previous generations (in one of the best socialized health care systems in the world) is not the reason folks don't save.

I agree with the-royal-mail above on the real reasons for not saving - an overpriced and pumped up housing market and too much crap to buy.
I'll add a couple of other top reasons to that - increasing cost of living (esp. food, gasoline), and increasing consumption taxes (HST, carbon tax, eco tax, etc.).


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## andrewf (Mar 1, 2010)

The boomers have been whining about everything. They complain that CPP rates were jacked up in the mid 90s. They only paid the high rate for half of their working lives. Their kids get to pay the high rate for their whole career.


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## Barwelle (Feb 23, 2011)

MoneyGal: I'm still trying to wrap my head around the link you posted... I'll have to wait till after work to really get it! Interesting publication. But it seems to me that they also are talking about the tax rate + loss of benefits (METR) on the last dollar of income, rather than the entire income amount.

I also am not sure about the graphs. Those tax credits etc are applied smoothly and progressively rather than in sudden increases/decreases as shown, right?

Agree with you guys... putting away money in the first place is more important than RRSP vs TFSA. (Though I think the article Harold links to is a bit off because it doesn't account for the savings that _would_ have been in an RRSP that are now going to TFSAs.)

Still something worth thinking about though if you're in the grey area between which is better. (I am... at a point where I have to decide to continue with everything in a TFSA, or split it up. That's how I came upon this.)


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## HaroldCrump (Jun 10, 2009)

Barwelle said:


> if you're in the grey area between which is better. (I am... at a point where I have to decide to continue with everything in a TFSA, or split it up. That's how I came upon this.)


At the risk of over-simplification, I'd say if you have room in the TFSA, fill that up first.
Then do RRSP for the remainder.

There are several reasons why I say so:
- TFSA is more flexible
- TFSA is possibly a huge potential tax drain for the federal govt. (esp. if its popularity continues), so you never know when the limits might be frozen or clawed back
- It is hard to imagine scenarios where TFSA withdrawals after retirement might under-perform RRSP withdrawls
- You could benefit from deferring your RRSP contributions in case you end up in a higher tax bracket in the future, whereas there are no benefits to deferring TFSA contributions

etc.

P.S. Regarding TheStar article I linked to above, of course it is slipshod.
It is another of those "surveys" conducted by a bank during RRSP time.

Look what it says:



> Salterio says far too many financial institutions wait until February to approach clients about topping up the full amount of their allowable RRSP commitment just weeks before the Mar. 1 deadline.


Uh huh.



> One of the things that financial institutions really need to do is when they have people in there talking with them, they need to start counseling about the need to make monthly commitment to these programs in much smaller bite-size sums," Salterio said.


Sure, of course.
Cui bono?

But, it does address the point you raised i.e. the TFSA program taking $$ away from RRSPs.
Look at the 7th para from the bottom.


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## Barwelle (Feb 23, 2011)

I'm running out of room in my TFSA. My retirement portfolio is a couch potato, then I also have a stock portfolio on the side that I consider "play" money. Both are in TFSA, which will be maxed out. With my savings goals, I'll have to take some money out of the Play TFSA each year to allow for the couch potato to stay all in the TFSA, and any money I add to the side portfolio will have to be non-reg.

Writing that out makes me think that I should open up an RRSP for a small portion of my couch potato (say, just US equities) but still leave most in the TFSA, so that all of my investments can be tax-sheltered.

Oh, I did see that line in the article. I guess what I meant to say was, they do _mention_ the TFSA, but they don't _account_ for it. They're saying that retirement savings rates are down because RRSP contributions are down ... but that's not necessarily true because some retirement savings are being put in a TFSA instead.

As you point out, it's a very self serving survey / article. So I suppose it's in their best interest to ignore that!


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## steve41 (Apr 18, 2009)

Let's think short term. When you plunk $10K into your RRSP, the govt has to give back a certain amount.... your RRSP refund. That money comes from the gov't as a refund check, or in the form of reduced taxation. If, instead, you plunk that $10K into a TFSA, the gov't doesn't have to fork over that tax refund. In the short term, the TFSA makes the treasury fatter.

When you project things out over decades, then the chickens come home to roost (no more nice RRIF withdrawal taxation revenue).... but who cares.... let the future politicians worry about that.


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