TFSA 101: How to Use it With Your RRSP

The Tax-Free Savings Account (TFSA) has been around since 2009 and offers Canadian investors a tax-free way to make investments and save cash. But what most Canadians may not remember is that when the TFSA was introduced, it was intended as just another way to save for retirement.

Why would you use the TFSA when you have access to the Registered Retirement Savings Plan (RRSP)? That’s a good question that I hope to be able to answer today. I’ll also discuss how you can use the two together to save as much as possible for retirement.

What the RRSP offers

Your RRSP certainly has benefits. Every year, every single dollar you put into your RRSP is deducted from your income tax. That means you only pay taxes on everything you’ve earned minus your RRSP contribution. This can put you in a whole different tax bracket, and it’s something I would recommend to any investor.

However, suppose you need the money immediately. There are very few ways you can take cash out of your RRSP before retirement. And if you do, there’s usually a timeline for when you’ll need to put that money back into your RRSP. There is also a contribution limit each year that depends on your income. You will find out from your notification and you should definitely pay attention to this, because there are penalties if you fall overboard.

What the TFSA offers

In comparison, the TFSA offers Canadian investors a way to put cash aside with the ability to withdraw it tax-free at any time. Do not get me wrong; There are certainly rules for that too. As you probably already know, the government applies a contribution limit each year.

If you were 18 in 2009, your contribution limit today is $81,500. But let’s say you turned 18 this year; In this case, you only have $6,000 in post space. Also, you have to be really careful when withdrawing cash. Any money that comes out of your TFSA cannot be deposited again until the next year. It can get pretty complicated, so talk to your financial advisor before simply withdrawing money.

Use them together

Here’s what I’d recommend if you’re an investor looking to invest money in both your TFSA and your RRSP, which you absolutely should do — especially if you’re looking to save for retirement. Every year I would try to fill your TFSA contribution space as soon as possible. Invest in strong companies, exchange-traded funds, and other stable stocks, then grow them year-round.

Next, when you receive your tax return, look at your contribution limit for your RRSP and see what would put you in the next tax bracket of your income tax. Then try to reach that amount and withdraw the money from your TFSA to top you up. This saves you potentially thousands in taxes and has the added benefit of your savings growing in your TFSA while you wait to invest in your RRSP.

Make it safe

When you do this, make sure you’re investing in strong, stable companies. What I would recommend is Canadian utilities (TSX:CU). It’s a Dividend King with over 50 years of uninterrupted dividend growth. You can lock in a 4.37% dividend yield and use the passive income to reinvest and grow your savings, whether it’s your RRSP or your TFSA. By doing all of this regularly and consistently, you’ll create a larger retirement portfolio that will only get bigger year after year.