Comments on: RRSP versus TFSA versus Mortgage Paydown

By: Brian Poncelet, CFP

Brian Poncelet, CFP — Sun, 27 Mar 2011 20:16:48 +0000

Since it is tax season lets talk taxes. RRSPs hurt in many ways… line 300 for 2010 is $10,382 for 2009 it was $10,320. If you do some research you may get hit by paying more taxes in the future assuming the trend (line 300) does not keep up with inflation.

For 2010, the maximum amount that can be claimed as an Age Credit is $6,446, but this amount is reduced by 15 per cent of your net taxable income in excess of $32,506 and disappears completely once
your taxable income reaches $75,479.

OAS is a monthly benefit available to most Canadians age 65 or older. However, you will be
required to repay 15 per cent of the amount by which your net income for tax purposes –
including your OAS pension – exceeds $66,733. If your taxable income exceeds $108,152, you
will lose your entire OAS benefit to the clawback.

OAS payments are clawed back when individual net income is greater than $60,806 (as of 2005).

Most people don’t understand taxes or understand how rules change with respect to government payouts do not work in your favour.

Also the history of taxes and rule changes like CPP payments for example, early changes to the Canada Pension Plan that will be phased in from 2011 to 2016. They will affect people who start receiving payments early, or who delay getting them until after they are 65.

Under the proposed changes, if you retire before 65, your pension will be cut by 7.2 per cent for each early year, instead of 6 per cent under the old rules. That means if you start collecting CPP at age 60 (the earliest you can), your monthly benefit will be cut by 36 per cent instead of 30 per cent.

The TFSA is better if you think taxes will be higher, or the same in the future. However, if one wants better protection grow money tax free (like a TFSA) then believe it or not permanent life insurance makes sense, as an added bonus if you become disabled, the policy can be funded up age 65, not so with an RRSP or TFSA.

By: Greg Blok

Greg Blok — Tue, 07 Dec 2010 23:33:36 +0000

I think that when you are young, paying off the mortgage is a smart move. There is the school of thought to max out the RRSP and use the tax refund to lump sum on your mortgage each year.

Personally, I like the TFSA, invest in dividend stocks and use the income to overpay your mortgage. I think for anyone to retire, paying off their mortgage is an essential step along the path.

Maybe the best idea is to put your home on a HELOC and use the excess cash flow generated to buy RRSPs, then use the tax deduction to buy a TFSA, use the excess income to pay down the principle on the HELOC. I know, confusing, but makes some sense!

Greg

By: unbertw

unbertw — Thu, 02 Dec 2010 18:12:19 +0000

Hi, A little off topic from the TFSA but I’m a 21 year old university student and have been investing since I was 16. Recently I took a $10,000 student line of credit and have since invested most of it in stocks. The dividends cover the monthly payments and are paying down the principle on the student line of credit. I only work in the summer months, and do not earn enough to pay income tax so I was wondering will this line of credit be considered taxable income? Also will I be able to take advantage of the dividend tax credit? Can I also deduct this student line of credit for borrowing money to invest? Similar to Showtime’s question.

Thanks

By: Showtime

Showtime — Sat, 27 Nov 2010 04:26:48 +0000

I’m not trying to stray from the topic too much but there’s something I really need to know that’s relevant to this topic (or let me know if there’s a better thread for this). I plan on using borrowed money to invest in something that will bear dividends eg REITS, dividend stocks, funds/trusts, etc. Would it be better to hold this in a tfsa or a regular non-tax sheltered acct? TFSA is tax-free. But w/ regular acct, I can get the dividend tax credit and deduct for borrowing money to invest (cra line 221). I’m hoping that someone w/ a better understanding of rules and math can help me out w/ this. Using average/typical numbers, which method is better financially? Thx.

By: Abe Bergler

Abe Bergler — Fri, 01 Oct 2010 19:37:48 +0000

Re the TFSA I think it works best for people that are having cash on hand, or people that can take out some out of an investment account. (Every year I sell $5000 stock in my investment account and re-purchase it in the TFSA account. Make sure it is something that grows, as losses cannot be written off!)
Within 10 years and with a account size of $50,000 per person, most people won’t pay taxes on their investment income.
That will be the latest when the government sees the foolishness of this system (for tax income) and will cancel or castrate it.
Lets enjoy while it lasts!

By: Canadian Capitalist

Canadian Capitalist — Thu, 11 Feb 2010 21:02:47 +0000

@icu_nxtime: I disagree that RRSPs are a scam. It all boils down to planning. If you have a largish RRSP, just retire early. If you already have a great DB pension that will more than fund your retirement, save in a TFSA account and then a non-registered account.

The point that RRSP contributions does not make sense for Canadians in the low tax bracket has been made repeatedly on this blog.

By: icu_nxtime

icu_nxtime — Thu, 11 Feb 2010 16:13:34 +0000

I have a work pension but have some rrsp’s saved up my plan is to max out my TFSA. I have seen my relatives become obsessed with their RRSP some saying now it was such a scam to have them. They have pesions too and virtually all the money they take fom an RRSP is taxed at a high rate.

If they did get a tax break say 30 years ago when they started to contribute it is much less value than at today’stax rate 30 years later AND they are also paying the tax on the interest that accumulated for 30 years. RRSP Does not make sense to me at all now especially for someone with a pension.

Not one post here seems to take into consideration what your tax rates will be say 20 yrs from now when you are taking the RRSP money back out and you really need to consider what hat percent might be in the future.

Sure I got a 20% tax break when I put it in but it is going to cost me 25% to take it back out and I need to pay tax on the interest earned too !!!

Is my scenario flawed I’d like to know if I am completely out to lunch here and would love to hear other points.

By: james

james — Tue, 29 Dec 2009 01:59:54 +0000

use the tfsa in lock step with rrsp and the stock market. When the market crashes you sell stock in the rrsp and buy it in the tfsa and when the market takes off you sell it in the tfsa and buy it in the rrsp.

That is my plan. I will let you all know how it went in 30 years.

By: Theta

Theta — Mon, 26 Oct 2009 01:03:46 +0000

I don’t think most working canadians will ever invest in a taxable account again. 21k RRSP (or 18%), 5k TFSA, 5k RESP (2 kids?), something on the mortgage, and some pesky living costs gets through most budgets.

We should be very clear – RRSPs d0 not avoid tax, they defer it. The taxman has a claim on the entire RRSP balance as you withdraw it. This means he gets to tax you on the artificial inflation component too. In an RRSP or taxable portfolio the taxman is like a hedge fund maager, he takes a cut of your profits (even the inflation component).

The TFSA is huge because it is after tax. Really, we should put our best investment ideas in the TFSA so that those big gains are completely tax free.

By: paul

paul — Wed, 25 Mar 2009 03:34:58 +0000

I would suggest though in case anyone is afraid to invest in any of the products Tom suggests just above to at least open a TFSA. Put what you can in even if you have to take it out again so you can carry over that “cap room” to next year or later when you are more comfortable doing some more conventional investing with some risk.

The potential this kind of account as you accumulate products in it year after year has is too good not to max out if you can. A couple doing this doubles all the benefit as well.

But I wonder one day a few years down the road, will the government change the rules? A possibility! Maybe start taxing withdrawals if many people accumulate a lot in these funds over time.