What is a better investment account: TFSA or RRSP?
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Are you planning to invest and research the best stocks to buy? Before doing this, you should know that all the money you make by investing is taxed. You receive a T5 slip that gives you a summary of your investment income. The Canada Revenue Agency (CRA) encourages Canadians to save money by offering many registered savings accounts with tax benefits. Two popular accounts are Tax Free Savings Accounts (TFSAs) and Registered Retirement Savings Plans (RRSPs).
TFSA versus RRSP
The purpose of TFSAs and RRSPs are different, and the CRA has designed them accordingly. If you use them optimally, you can get the most out of them.
The TFSA, as the name suggests, encourages a culture of savings. Therefore, it levies a tax on your contribution but allows your investment to grow tax free. Plus, you can withdraw partial or full amounts at any time without adding them to your taxable income.
Since there is a tax benefit, there is a cap on the amount you can invest. For 2021, the contribution limit is $ 6,000, which you can carry forward to next year. If you were over 18 in 2009, when you started your TFSA, you can invest a lump sum of $ 75,500, which is the contribution accumulated over all these years.
The RRSP is the exact opposite of the TFSA. RRSPs promote retirement savings, which means you have to stay invested until you retire. To do this, the CRA deducts the RRSP contribution from your taxable income but adds the withdrawals to your taxable income. And if you withdraw before the age of 71, he deducts an additional withholding tax of 10 to 30%.
Just like the TFSA, the RRSP also has a contribution limit, which is 18% of your income or a maximum amount determined by the CRA. For 2020, the maximum amount is $ 27,230, which you can carry forward to next year.
In both accounts, the overcontribution results in a tax of 1%. The TFSA and RRSP combined allow you to invest $ 33,000 per year in a tax-efficient manner. You can also check out other registered accounts for more tax-efficient investments.
Maximize returns and tax savings with TFSAs and RRSPs
Now that you understand the workings of TFSAs and RRSPs, you can maximize your returns and minimize your tax bill. There are three things you need to consider when choosing a savings account:
- Will the security you invest in produce high returns?
- What is your tax bill for the year?
- How much can you save in the long run?
The TFSA investment strategy
Use the TFSA to invest in high growth, high dividend stocks, which can grow your money several times over in a few years. Your investment income will be greater than your contribution and the TFSA will exclude investment income from your taxable income. The TFSA is popular among households with after-tax income of less than $ 80,000, according to the 2016 census.
The ETF iShares S & P / TSX Capped Information Technology Index ETF (TSX: XIT) is a good choice for the TFSA. The ETF has jumped 267% over the past five years, converting $ 10,000 to $ 36,700. It gives you exposure to the best tech stocks traded on the Toronto Stock Exchange. This growth of 267% corresponds to when the sector was in its infancy. It has now entered the growth phase, and the cloud, 5G and artificial intelligence revolution will lead the wave. The ETF holds stakes in some leading stocks such as Shopify and Blackberry, which even exceeds the recommendations of Motley Fool Canada.
The RRSP investment strategy
While high growth stocks are good, they come with high risk, so balance your portfolio with resilient stocks with stable returns using the RRSP. Choose this account when the tax savings are worth it.
If your taxable income is $ 105,000, approximately $ 8,000 of your income falls under the 26% tax bracket. But if you put that $ 8,000 in an RRSP, you’ll save over $ 2,062 on the federal tax bill. It’s a good compromise. You can invest this amount in Canadian public services and earn $ 440 in annual dividends, bringing your total savings for the year to $ 2,500.
Maximize the benefits of the TFSA and the RRSP and plan your investments in a tax-efficient manner.