How Not To Choose Between a TFSA and an RRSP

It’s been a while since I shared a hilarious tale of the times I did the opposite of what standard financial advice – whether my own or someone else’s – would have recommended in that situation.

For reference, the things I’ve been an example of how NOT to do include choosing a credit card, buying car insurance and saving up an emergency fund. And now, with this post…

Drumroll please…

That list includes how not to choose between a TFSA and an RRSP.

(American friends, I think this is like choosing between an IRA and a 401K, but ¯\_(ツ)_/¯ ?)

There are two main reasons I wanted to share this story. One, yesterday marked the start of Financial Literacy Month, aka the personal finance high holidays, and while there are some stellar arguments about how financial literacy won’t save us – or make us save our money – there are definite benefits to knowing stuff about money.

One of the big “you should know stuff about this” topics is, of course, our tax-advantaged savings accounts, the RRSP and the TFSA.

Use them right, and you could save thousands of dollars in taxes every year, and set yourself up for a pretty sweet retirement. Use them wrong, and…

Well actually, that’s a perfect transition into my tale of how not to choose between a TFSA and an RRSP.

That Time I Didn’t Choose Between a TFSA and an RRSP

The best way to not choose between a TFSA and an RRSP is literally just not to choose.

I know, major letdown of a post, right?

But in all seriousness, that’s exactly what I did when I graduated university. As taught by my personal-finance-rockstar mom, I went straight to the bank during my first few weeks of full-time work, asked to open a retirement account, and when they asked which one, I literally said “One of each, please.”

I was polite, if poorly informed about how to choose a tax-advantaged account.

In the same meeting, I set up twice-monthly transfers to each account, putting exactly the same amount of money in each account. I also took my teeny savings, divided it by two, and put half in each of my shiny new tax-advantaged savings accounts (which, FYI, I could have started using while I was still a student if I had asked for them.)

You hear that faint sound?

It’s the sound of every accountant and tax specialist reading this quietly weeping for how bonkers-not-efficient my use of those accounts was when I graduated. Even looking back on it as a Total Tax Novice, I kind of cringe too.

But Was It Really That Bad A Move?

While no, I am 100% not recommending you just learn nothing about TFSAs and RRSPs, and put half of your total savings into each one while hoping for the best, I also don’t think it’s the worst thing you could do with your money.

Optimal? Not a chance, not even kind of.

But… it’s still saving.

I still got a tax refund for my RRSP contributions those years. I still got some paltry tax-free growth on my TFSA savings. And I still built up both balances to a respectable amount for a 20-something who hasn’t hit her peak earning years (well, hopefully anyways). It turns out, more than anything, regularly saving a bit of money every two weeks will do that to you.

So if you really, truly, absolutely cannot fathom learning anything at all about your TFSA and your RRSP, either pick one, or pick both, and just do it . I promise you the worst that will happen is that you will save money in an account that turns out not to have been the best-case tax scenario (but you still saved money, so you’re OK, I promise.)

The “Right” Ways to Choose Between a TFSA and an RRSP

Nowadays, I’ve got a bit better of a handle on my savings situation, and a (much) better understanding of the details of both the TFSA and the RRSP.

Even with all the details of each account, and the specific nuances of which one would be best for each individual human, I still find there are three questions you can ask that will take you a solid 80% of the way towards choosing the right tax-advantaged, long term savings account for you, for now.

Do you want to avoid any big hassles?

Go with the TFSA. Sure, you won’t get a tax refund, but your tax filing will be marginally simpler, you can withdraw the money if you need to, and you can always move money into an RRSP later if you want to. If you’re looking for the no-brainer, quick-start option, a TFSA is it.

Do you think you’ll need this money before retirement?

If you will, keep it in a TFSA. When you withdraw money from an RRSP, it’s considered part of your taxable income that year, and taxes will likely be withheld on withdrawal. That means that if you need to take out $10,000, you’ll probably only end up with about $7,000 give or take – unless you’re taking it out under the Home Buyer’s Plan or the Lifelong Learning Plan. So if you’ll need the money in the next few years for something other than your first house or a degree? Toss it into a TFSA.

However, unpopular opinion time: if you’re saving for retirement, I personally think not being able to withdraw the money easily is a pretty sweet feature. You’re talking to someone who raided her TFSA to buy a car in cash, which yes, was hella convenient, but also hella not great for my retirement savings.

Are you making more now than you think you’ll make in retirement?

This question is a good gage for how much you should focus on long-term saving within an RRSP, for the simple reason that you get a tax refund when you put money in, but you’re taxed on the money when it comes out. While some people think that makes the RRSP a scam, it’s actually just a deferred tax account (and no one complains when they get a sweet refund in April, amirite?)

If you’re making more now than you want to withdraw every year in retirement as income from your RRSP, you’ll save more on tax overall by contributing to an RRSP now. You can – and should – look into the details on that by researching your tax rate and planning your retirement spending, but if you’re not up for all that?

Make a best guess, start contributing, and adjust as you get more information.

Bonus fourth option: read this great flowchart from Holy Potato to help guide your decision even more.

Now, is that everything you need to know about TFSAs, RRSPs and how to choose between the two? No, of course not, because there are entire tax-planning courses and Very Informed Professionals who can give you detailed recommendations for your specific, nuanced situation.

But if you just want to make a good-enough-for-now decision so that you don’t waste another year not taking advantage of either the TFSA or the RRSP? You’ve got enough information.

Choose one now, ask more and better questions when you need to (or want to, you personal finance nerd, you!)

Do you have anything to add – including your own tales of figuring out the whole TFSA vs. RRSP thing, links to other resources, or advice for people going through it? Share them in the comments!

PS. Want a primer on the perks and nuances of each account? Check out the millennial’s guide to the TFSA and the millennial’s guide to the RRSP.