Most pharmacists would opt to pay fewer taxes and save more of their money for a rainy day.
By Mike Jaczko, BSc. Phm, RPh, CIM®
With the launch of the Tax-Free Savings Account (TFSA) back in 2009, our federal government made that a little more feasible. This savings option allows Canadians to grow their money tax-free and access it any time they want. “Tax-free,” in this case, means you don’t pay taxes on the money you make inside your TFSA, which can come from interest payments, capital gains or stock dividends.
Since they launched, TFSAs have emerged as not only a great tool for investing and saving for larger purchases, but also as a viable option for retirement planning.
Unlike our old standby, the Registered Retirement Savings Plan (RRSP), the tax is not deferred when you withdraw your money from a TFSA, and contribution room is not dependent on earnings. That means all Canadians who are at least 18 years of age, with a social insurance number, have the same allowances in a TFSA regardless of income. There is a catch, of course: the TFSA limit determines how much you can deposit each year. This year that limit is $5,500, but in previous years it has been as high as $10,000.
Fortunately, you can also roll over this contribution room year-to-year, so the amount you can save annually will go up whether you contribute money or not. Put it this way: if you were to open your first TFSA in 2017, you could essentially contribute up to $52,000 (the current cumulative total accrued since 2009, the year TFSAs were introduced).
TFSA or RRSP?
Pharmacists frequently ask me, “Is it time to ditch my RRSPs for TFSAs?” In a perfect world, we would all max out both every year. But if that isn’t feasible in your current situation, here are some things to consider in choosing which type of savings vehicle is best for you:
When will you need the funds? You can take money out of your TFSA at any time without penalty. When you take money out of your RRSP before retirement, however, it is added back to your income for that year and subsequently taxed, with exceptions for first-time home buyers and educational opportunities. Dipping into an RRSP also results in a permanent loss of your contribution room. Bottom line: if you think you might need the money while you are still working, a TFSA may be a better bet.
Could you use the deduction now? While the TFSA is a tax shelter, it has no tax deduction. On the other hand, whatever you put into an RRSP is deducted from your income at tax time, meaning you will pay less tax in that year. The question then centres on whether you want to pay the taxman now or later. The answer will likely hinge on where you expect your tax rate to head in the future.
Do you expect your income to rise? If you are in a higher tax bracket, the tax savings from an RRSP may be particularly helpful while you are in your peak earnings. But if you want to save RRSP contribution room for the future and you expect your income to increase, saving in a TFSA in the meantime may be the better option.
For more information on TFSAs:
Mike Jaczko, a pharmacist by background, is a portfolio manager and partner of KJ Harrison, a Toronto-based private investment management firm serving individuals and families across Canada. For more information on this topic, email firstname.lastname@example.org.