Another day and another interesting question from a reader. This one comes from Andy Royer who wrote:
One question I hope you haven’t answered yet. You (and several others) keep
mentioning it’s not worth it to invest in RRSPs if you will be in the same tax
bracket or higher.
“Now in this income level you will most likely want to avoid RRSP’s as you
likely to be in the same tax bracket in retirement.” — Your March 27, 2007 blog
posting for example.
Has anyone ever done the math on this? I’m thinking the Tax Credit gives you
more money to invest now, plus the money grows tax free into retirement. So even
though you may pay more tax later are you really worse off?
My personal plan is to have 100% of my income when I retire, so this is quite
relevant to me. If you don’t have the numbers I may have to sit down and figure
this out when I get some time.
Damn I hate when I write things that come back to haunt me, but Andy brings up a good point that I shouldn’t be using a blanket statement. In that post I was referring to the fact you need to be careful about assuming a RRSP is a good thing. In some cases it isn’t, it depends on the numbers. For example, a TFSA might make more sense when you are just starting out in investing than an RRSP, since it is more flexible to be used for saving for a house down payment or retirement.
In that specific case I was referring to the fact that depending on the type of investment you make it might make more sense to hold something in a taxable account rather than an RRSP. For example, a Canadian dividend paying stock if your marginal tax rate on dividends are negative. This happens for my wife, she gets a tax credit that is greater than the tax owning so hence the negative tax rate. When that happens you are hard pressed to make up that advantage. If you don’t believe me check out my math here (I just assumed a zero tax rate on the dividends to try and make the results closer. Also anyone is free to copy the sheet and play around. Please advise me if you find a formula error). If on the other hand you were taking about interest income you likely would be correct, an RRSP would likely be better.
So really the answer should be: it depends. Check out the math for your specific case and see what makes sense to you. Hope that helps more than it confuses people.