Author Topic: CAN: Unregistered vs Registered  (Read 316 times)

PM

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CAN: Unregistered vs Registered
« on: July 12, 2018, 05:20:09 AM »
I have recently quit my job to transition to a more laid back role (too many years in the corporate world). I will be able to pay my bills with my new job but there will be very little savings going forward. The plan is to let the stash grow until I fully retire.

My question is, I believe I should still be investing in my TFSA every year and I am wondering if it is smart or stupid to pull from my unregistered accounts to contribute to my registered? I tried googling this info and came up short.

Thanks in advance!

terran

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Re: CAN: Unregistered vs Registered
« Reply #1 on: July 12, 2018, 05:38:57 AM »
Please correct me if I'm wrong about this, but for the US centric among us:

A RRSP is similar to a traditional IRA in that you don't pay taxes on money you put in, you don't pay taxes on investment income while it's in the account, and you do pay taxes when you withdraw from the account.

A TFSA is similar to a Roth IRA in that you do pay taxes on money you put in, you don't pay taxes on investment income while it's in the account, and you don't pay taxes when you withdraw from the account. 

Does that sound right?

If so, and if there are no penalties or other rules against withdrawing from RRSP and contributing to TFSA (other than the normal income tax on the RRSP withdrawal) then just like Roth conversions in the States it all comes down to your marginal tax rate now and your marginal tax rate in retirement. If you pay a higher tax rate now I would not make the conversion. If you pay a lower tax rate now I would. If you pay the same tax rate now I also would because then the gains from now until withdrawal will be tax free. Remember to consider province level taxes (if any) if you might consider moving to a lower tax province in the future.

Edit: Maybe I had that wrong - is the contribution to a TFSA deductible? Meaning it's tax free all the way around? If that's the case, then it's a no brainer -- definitely withdraw from RRSP and contribute to TFSA if you can't otherwise afford to contribute. The income from the RRSP and the deduction from the TFSA would be a wash and then you get tax free growth.
« Last Edit: July 12, 2018, 05:42:53 AM by terran »

PM

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Re: CAN: Unregistered vs Registered
« Reply #2 on: July 12, 2018, 05:52:21 AM »
Thanks for your response terran!

Your interpretation of RRSP and TFSA is accurate.

I would not be withdrawing from RRSP to move to TFSA. It would would be a withdraw from my unregistered accounts ie. company stocks, etc to fund my TFSA but your comments around existing tax rates and future gains are helpful and something to think about.

If I do withdraw from my unregistered, I will be dinged in taxes just to move the $ over to TFSA. But the future gains of the TFSA could prove to be more beneficial in the long run.

terran

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Re: CAN: Unregistered vs Registered
« Reply #3 on: July 12, 2018, 06:11:32 AM »
Ah, ok. So when you say unregistered account, we would probably say taxable or brokerage account?

How do taxes work with an unregistered account. I assume you pay taxes on dividends as you go along and you pay taxes on capital gains only when you sell? Do dividends and/or capital gains receive favorable tax treatment as compared to regular income?

Again, if I was right with my edit (TFSA gets a tax deduction going in) I would definitely make the transfer. If I was right originally (TFSA doesn't get a deduction going in) it's a harder call. The capital gains part would follow the same logic of higher current tax means don't do it, the same or lower current tax definitely do it assuming capital gains taxes are only paid when realized as this is basically the same deferred tax situation as the RRSP. But since dividends are probably taxed along the way, that makes things a little more complicated and would skew things towards making the transfer even if you're in a higher bracket now. The longer you expect to hold the investments the better getting them into the TFSA would be.

For a simple version of a calculation that might give you something of an ok answer you could try multiplying your expected annual tax on dividends (expected dividend payout multiplied by dividend tax rate) by the number of years you expect to hold the investments and compare that to the difference if you current vs future capital gains rate multiplied by by your current capital gains. There might be something wrong about this calculation, but if "feels" (gut level thing) like it might be a place to start.

PM

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Re: CAN: Unregistered vs Registered
« Reply #4 on: July 12, 2018, 06:30:15 AM »
We do pay taxes on dividends as they are paid out. We also pay taxes on capital gains but only 50% of capital gains are taxable.

TFSA do not get a tax deduction going in.

I'm glad to see that you agree this is a complex decision because I was trying to figure this one out on my own and couldn't get anywhere with it :-) I will try your mathematical exercise and see if helps make an informed decision.

Appreciate your help!

Canadian Ben

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Re: CAN: Unregistered vs Registered
« Reply #5 on: July 12, 2018, 09:49:37 AM »
PM: Couple of questions

1) What is your tax rate currently with your work income?
2) How much income will you need during retirement (and what number will be coming from RRSPs)
3) If you have unregistered accounts (taxable investments, you should really have filled your TFSA first)
4) Have you checked how much you would have to pay in taxes if you did a one-time switch to your TFSA.

Everything Terran said makes sense, but your capital gains will only continue to increase, as will the losses in dividend return due to taxes. If your current income is close to the income you would make during retirement, it would be logical to transfer it over now.

PM

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Re: CAN: Unregistered vs Registered
« Reply #6 on: July 12, 2018, 10:07:19 AM »
Thanks Canadian Ben. See my answers below

1) What is your tax rate currently with your work income? 20.5%
2) How much income will you need during retirement (and what number will be coming from RRSPs)? My husband and I would like to withdrawl a total of $80k per year. We will likely start withdrawing in about 15 years from now so haven't determined what % will be coming from RRSP's yet.
3) If you have unregistered accounts (taxable investments, you should really have filled your TFSA first)? TFSA's and RRSP's are both maxed. I am thinking of what to do in future years
4) Have you checked how much you would have to pay in taxes if you did a one-time switch to your TFSA? No, but I will validate

My husband and I are in quite the transition period right now so some of these answers are tough. We both quit our full time corporate gigs and now transitioning to our own hobby jobs (him: web development, me: personal training). We have no idea what the next 15 years will bring but my initial gut reaction is to take from our taxable accounts and fill up our registered accounts since we still have time on our side

As a side note, we live in Ottawa and will likely be joining you guys in some local meetups soon :-)

Canadian Ben

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Re: CAN: Unregistered vs Registered
« Reply #7 on: July 12, 2018, 10:53:15 AM »
20% marginal or 20% average?

Since you are planning on 40k per person, if you are currently making 40k per person, you might as well fill the TFSA (we're talking about 11k a year, with only 5.5k of that being taxable, and that`s only if it`s 100% gain, some portion will be the return of capital.)

The size of your RRSP will also be a factor, since you will want to draw that down, but since the money is not tax-effective, you might be taxed the same amount as now.

All in all, it will have little effect on your FIRE!

RichMoose

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Re: CAN: Unregistered vs Registered
« Reply #8 on: July 12, 2018, 11:44:09 AM »
I have recently quit my job to transition to a more laid back role (too many years in the corporate world). I will be able to pay my bills with my new job but there will be very little savings going forward. The plan is to let the stash grow until I fully retire.

My question is, I believe I should still be investing in my TFSA every year and I am wondering if it is smart or stupid to pull from my unregistered accounts to contribute to my registered? I tried googling this info and came up short.

Thanks in advance!
You are almost certainly better off selling some of your NR account investments to top up your TFSAs each year. The hit from capital gains tax now is likely to be very small compared to the accumulating capital gains and dividend taxes as the years continue.

Plus, TFSA withdrawals (down the road) are not reported as income. Dividend income is grossed up and capital gains are included at 50%. High dividend income in particular could impact benefits down the road (OAS, health/pharma, etc.)
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Canadian Ben

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Re: CAN: Unregistered vs Registered
« Reply #9 on: July 12, 2018, 12:11:04 PM »
Or increase savings rate in order to be able to fill the TFSA without NR accounts! (or use your dividends)

Prairie Stash

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Re: CAN: Unregistered vs Registered
« Reply #10 on: July 13, 2018, 12:49:25 PM »
In your taxable account should be Canadian ETF. In most provinces the dividends are tax free (negative tax in Ontario) if your income is below $45k.

Selling taxable accounts in retirement is interesting; it can be largely done without paying tax! The principle is tax free always, so the problem in determining taxes owed is how much was gains? If you and your husband both sell $35,000 in ETF/year, plus receive $5000 dividends, that could make up $80,000. Presuming $10,000 was priciple, $25,000 was gains, you would owe $212 in taxes (assuming no other deductions or income) in Ontario.

Now lets pretend you sell $5500 this year and its half principle/half gains. You would owe $275 if you had an income of $40,000 (marginal tax rates at the 20.05%).

Notice in the first example, principle made up a smaller percentage, I assumed some growth. Notice how I also said your income was $40k, the numbers change as your income grows. At a $40k income, canadian dividends are tax free, at higher incomes you pay tax.

To answer your question; it depends on current income, asset allocation (CDN vs. Non-CDN) and the allocation between spouses.

In some cases, its better to contribute to a taxable account then an RRSP; the TFSA always beats a taxable account. But in some cases (particularly low income ears) the taxable account is better. The number of people who fit this category is small, few people have maxed out TFSA, and enough income to spare to fund a taxable account. (note, this is for future contributions, this paragraph doesn't apply to money invested)