RRSP vs. Taxable Accounts

[Prairie Stash]

In a few threads many of us have had conversations about RRSP. A mustachian might max out their TFSA and RRSP and require a taxable account as well/

This reality makes it hard to follow conventional wisdom, a more detailed look at the intricacies of an RRSP is required. On a few threads I've seen the following problem
"is it better to delal claiming my RRSP contribution because I'll be earning more in a few years?"
The answer is almost always No. The exceptions are when you contribute for a match or otherwise are forced to make an contribution. The proper answer is; contribute to a taxable account after the TFSA is maxed.

I'm purposefully drawing the hard line here, feel free to prove me wrong using math and examples (by taking an extreme, I'm leaving it wide open to poke holes). Assume TFSA is maxed for simplification, TFSA always is better than a taxable account. Compare Taxable accounts and RRSP accounts (with a delayed claim). You will always find the taxable comes out better (with the exception of a market that is perfectly flatline, it only matches). In an up market it outperforms the gains. In a down market it minimizes the losses, because you can claim the loss.

How is this possible? because at any point in the future you can transfer from the taxable account into the RRSP and get an even larger future refund. Then it becomes a situation of RRSP with an immediate claim, which is better than taxable accounts.  In practice though, its not necessary, in years with high income you can fully find an RRSP (because of your high income). Feel free to add more solid advice, eventually we'll (as a group) need to sticky these comments.

RRSP>Taxable>RRSP with a delayed claim

[frugalcanuck]

It is my understanding that if you have an income above $45,916 then investment order is...
1. RRSP
2. TFSA
3. Taxable or Mortgage

If your income is below $45,916 then the investment order is...
1. TFSA
2. Taxable or Mortgage

If you are "guaranteed" to be making more in a few years then it might be better to delay RRSP contributions if your income increase is enough to bump you into another tax bracket ie.  above $92,000 or $142,000.

[daverobev]

It IS worth using your RRSP room if you are low income, assuming you are not expecting to gain a significant salary increase in the very near future. *Especially* if you have children, because a reduction in income = more child benefit.

RRSP growth = TFSA growth if you will be in the same bracket in retirement (ie investing $1 in a TFSA will grow to the same amount that $1 + the tax you are deferring will in an RRSP; you will get the same amount out after tax). And as someone else mentioned recently, RRSP money in comes off the "top" of your salary; RRSP withdrawals in retirement is added on to whatever other income you have but even if your marginal rate is higher, some of that RRSP withdrawal can be in a lower bracket. (Obviously this can work both ways, so it is worth checking).

I am putting the max into my RRSP this year even though I didn't earn much because a) it's my last year earning, b) we have children, c) I should be able to withdraw most of my RRSP before OAS/CPP kick in while I am probably under the personal allowance (to be seen), after our children have ceased being income producing assets.. ahem.. I mean under 18.

[Lews Therin]

You guys are missing Prairie stash`s point: He's not comparing to contributing into RRSP and claiming immediately, but rather contributing to RRSP and claiming the tax deduction in the future.

I'd be surprised that there is any point in favor of not simply putting it into unregistered accounts until you need to get the tax deduction (if you are waiting for higher income years), and then transfering into RRSP in the year you want to claim.

[sieben]

You guys are missing Prairie stash`s point: He's not comparing to contributing into RRSP and claiming immediately, but rather contributing to RRSP and claiming the tax deduction in the future.

I'd be surprised that there is any point in favor of not simply putting it into unregistered accounts until you need to get the tax deduction (if you are waiting for higher income years), and then transfering into RRSP in the year you want to claim.

That's how I read Praire Stash's post as well.
Totally agree on this point. :)

[Lews Therin]

I can't see any negative points in the OPs scenario...

[daverobev]

I was replying to frugalcanuck.

Yes, I agree contributing and claiming the deduction 'later' is almost always a bad idea.

[Eckhart]

How is this possible? because at any point in the future you can transfer from the taxable account into the RRSP and get an even larger future refund. Then it becomes a situation of RRSP with an immediate claim, which is better than taxable accounts.  In practice though, its not necessary, in years with high income you can fully find an RRSP (because of your high income). Feel free to add more solid advice, eventually we'll (as a group) need to sticky these comments.

RRSP>Taxable>RRSP with a delayed claim

I agree and your logic seems sound. 

[lizi]

I will post a mini case study here once my end of year numbers are finalised, because I contributed to my RRSP this year but I plan on delaying the contribution claim to a year where my income is hopefully double. From my back of a napkin calculations I am better of delaying the claim, but this may be due to the fact that I have already contributed so it's too late for the taxable account option. Anyway I would be interested in having my math sanity checked, so I'm PTF this thread.

[Goldielocks]

First, let me say that I need to run the numbers...  second, that the reason to put dollars into an RRSP and delay the claim is because you KNOW that you have a high margin tax year coming up... eg., a second home sale with capital gains, or a severance pay that is already offered and accepted if you stay for another 18 months, deferred compensation,  rolling an IRA into an RRSP...     or, for the rest of us, when you are about to get a large promotion / go back to work after part time due to school or mat leave, etc.

ie.   delay the RRSP claim only for a few years at most. 

A few more notes

 The value of money today, versus the value of a future dollar tomorrow, is higher, so putting off the claim should not be made for too many years...the value of a $1000 rebate is higher today than $1000 in 10 years...  if you have the ability to claim it, and no compelling reason to defer, claim it.   


Why RRSP may be better:
The taxable account needs income taxes paid on the amounts earned in the account each year (taxed in the usual ways), but the RRSP delayed claim's income is tax deferred until withdrawn.   

That must make a difference, somewhere in some scenario to support putting the $ into the RRSP with deferred claims.  (although it is true that the losses can never be claimed, so this scenario only would work on the up cycles, and capital gains can be held until sold so have built in deferrals).   

Qualitative differences
RRSP deferred claims are very very each to switch into a claim, when you prepare your tax return you simply elect to claim all or part or none of it.  Moving funds from non-registered account to RRSP requires not only a second account, but typically a sale of positions held, a transfer, maybe fees for commissions and closing account / transfer fee, in addition to carrying the RRSP account.

Many people pay for their investment taxes each year out of general cash flow..  they don't often sell positions just to pay a smallish amount of tax.  This inflates the non-registered by the value of the extra taxes paid / left in the account.

Many people don't re-invest the RRSP refund, they spend it, eroding the RRSP benefits.

[Prairie Stash]

Run the numbers, then try to find a scenario. Remember, this is the choice between a delay and taxable only. The only scenario I can find is to take advantage of RRSP matching, that one is obvious.

If you're low income, the value of the investment account is even greater, in may provinces dividends are tax free for low income people. Prepaying an RRSP, to avoid future taxes from windfalls, while being able to receive tax free dividends will never work. In BC if you earn under $46k canadian dividends are negative tax, buy and hold a Canadian ETF and balance it with an american ETF in the TFSA. 0% (ignore the negative, its insignificant) tax is even better than deferred tax. You could be low income because you're part time this year, a student or on Mat leave...that's the worst time of all to invest in an RRSP over a taxable account since a large chunk of the gains could be tax free regardless, the rest are taxed at 50% and get you an even larger RRSP refund as a result.

The dividend tax rate really makes the scenarios very case specific. No tax is always better than deferred tax. Please note, I always say TFSA is better than taxable so everyone should have the opportunity to balance their portfolio. In every scenario the TFSA is fully funded before a taxable account is started.

My goal is to help people understand that the taxable account is one of the most valuable tools for planning that is currently overlooked by the mainstream media. Its understandable, most people can't max TFSA ($5500) and fund RRSP  on top of trips to mexico. We're not most people though, otherwise you wouldn't need to teach people in your classes.

[lizi]

Right, that explanation makes a lot of sense to me. I dived right in last year and maxed out my RRSP, but I'll be a bit more cautious depending on my income this year. My TFSA is hard to max out because the CRA haven't told me what my contribution room is (due to being a non-resident prior to 2014). It will take me a long time to max out what I've calculated I'm eligible for anyway ($32K, I've made ~$15K in contributions), so that will be my first goal for this year. Even if I land a well paying job, that is at least a few months down the road so my total income for the year is once again unlikely to be above $40K gross.

I think I will just go ahead and claim the RRSP contribution on my 2017 tax. Claiming vs not gives a difference of a $1300 return, or a $65 return. I have no idea what my income will look like over the next few years, so I'd rather take the money now. Bird in the hand and all that.

[Prairie Stash]

Right, that explanation makes a lot of sense to me. I dived right in last year and maxed out my RRSP, but I'll be a bit more cautious depending on my income this year. My TFSA is hard to max out because the CRA haven't told me what my contribution room is (due to being a non-resident prior to 2014). It will take me a long time to max out what I've calculated I'm eligible for anyway ($32K, I've made ~$15K in contributions), so that will be my first goal for this year. Even if I land a well paying job, that is at least a few months down the road so my total income for the year is once again unlikely to be above $40K gross.

I think I will just go ahead and claim the RRSP contribution on my 2017 tax. Claiming vs not gives a difference of a $1300 return, or a $65 return. I have no idea what my income will look like over the next few years, so I'd rather take the money now. Bird in the hand and all that.

https://www.canada.ca/en/revenue-agency/services/e-services/e-services-individuals/account-individuals.html
You need an account with CRA (link), that's where they tell you the contribution room for TFSA and RRSP. RRSP is also found on the Notice of Assessment (NOA) they mail out, it seems like that should also have the TFSA room (but it doesn't as you have noticed). It takes a few weeks to get the account set up, get on it now before the March rush when people start doing taxes.

I just logged on and saw that RBC still hasn't sent in my contributions I made last year to the TFSA, so be careful and watch for that. It should be up to date sometime in March.

[lizi]

I have a CRA account, and for the longest time it just came up with nothing as my TFSA contribution room. Then suddenly a few weeks ago it popped up with ~$56K (or whatever the max is). I'm a little skeptical about that figure, because I wasn't a resident prior to 2014 so technically I shouldn't be eligible for any contribution room from before that. So I have to fill out a bunch of paperwork to declare arrivals and departures from Canada, and then see what they update it to. Or I could do nothing, but I'd be worried about being caught out later.

[Goldielocks]

Hi All,

I have not posted earlier in the week because this thread deserves more thought / analysis than the others.

What I did run (first) were several scenarios comparing RRSP to TFSA.
I think we all agree that TFSA are amazing, flexible vehicles that offer so much to people in nearly every income bracket.. 

Low income, especially under $46k - best all around savings vehicle (excepting h the CCB benefit for families under $60k/yr -- now with the more generous rates, getting a modest income to a low income has large benefits in transfer payments to you directly).
Medium income -- There is no difference in putting money into TFSA and RRSP if your tax rates at withdrawal are the same as today.
High income -- If you are over $100k per year, you should be maxing out RRSP and TFSA's, both.  The ability to pull large lump sums in retirement from a TFSA are amazing to retirees. (for a vacation, a gift to someone for education, to buy a car, etc).

So far, the only time one should put money into RRSP's over TFSA's (when you don't have enough for both) seems to be:
1)  Lower income -- When you get tax transfer payments (example CCB, but maybe disability or others, too) from the government for low income, and they take the Adjusted income number AFTER RRSP contributions.

2) When you have a strange "spike" year or years in RRSP, pushing you into a high marginal tax bracket that is unusual for you.  e.g., severance pay or vacation payouts upon termination, a large bonus from work, you have just sold an asset and have a large capital gain.   

Why is RRSP contributions for a tax refund not on this list?  Because it makes zero difference, after tax, if your tax bracket is identical.  Further,  unless you are automating through payroll contributions, many (or MOST) people that do not max their RRSP's also do not put the full tax refund back into the RRSP, eroding the savings. 

Why don't I include overall high income earners here?  Because they should be maxing RRSP and TFSA's both, not choosing one over the other.


NEXT:
RRSP  versus NON-TAXABLE  When would deferring an RRSP claim make more sense than a non-taxable account?

How is this possible? because at any point in the future you can transfer from the taxable account into the RRSP and get an even larger future refund. Then it becomes a situation of RRSP with an immediate claim, which is better than taxable accounts. 

RRSP>Taxable>RRSP with a delayed claim

[ToTheMoon]

This is amazing @Goldielocks, thank you SO much for the concise summary!