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Should a Business Owner Invest in TFSA, RRSP or Leave Excess Funds in Corporation?

tfsa-vs-corporation

When it comes to optimizing your financial strategy, choosing the right investment vehicle can make all the difference. Explore the benefits of Tax-Free Savings Accounts (TFSA), Registered Retirement Savings Plans (RRSP), and leaving excess funds in your corporation.

 

Let’s delve into the advantages of each option to help you make an informed decision tailored to your unique financial goals.

Tax-free Savings Account (TFSA)

A TFSA, or Tax-Free Savings Account, is a savings and investment vehicle available to Canadian residents. Introduced by the Canadian government in 2009, a TFSA allows individuals to earn investment income, including capital gains and dividends, without being subject to Canadian income tax.

TFSA’s are held in your personal name and funds invested in here are after tax since you would have paid taxes when receiving the money. Contributions to a TFSA are not tax deductible when you file your returns. 

TFSA Benefits

  • No Tax on Earnings

You will not be taxed on any income, capital gains, or dividends that you receive in a TFSA.

  • No penalties for withdrawals

If you need quick access to your money, you can withdraw it whenever you want (depending on the kind of investment you made). Any contribution room that isn’t utilized in a given year can be carried over to subsequent years.

  • No upper age limit on contributions

you can continue to contribute well into your 70s and 80s.

  • No Impact on Federal income-tested benefits

You won’t be taxed on anything you earn or take out of your TFSA, and it won’t affect your eligibility for Old Age Security, the Guaranteed Income Supplement, or the Canada Child Tax Benefit.

Why Do I invest in a TFSA?

Since returns on investment are tax-free, this helps with compounded returns on investments. 

You can take advantage of tax-free growth with a TFSA. The Canada Revenue Agency (CRA) confirmed that the limit is $7,000 in 2024, up from $6,500 in 2023 and $6,000 in 2022. Click here to read more!

“Take the money out as dividends or salary and put it into a personal account like a Tax-Free Savings Account (TFSA) can often be the better long-term strategy.”

TFSA vs Retaining funds with a Corporation

  • Tax-Free Growth

TFSA is tax-free, which is a big advantage and money earned on investments in a TFSA is not taxable. Because of this, TFSAs are a desirable option if you want to save for the future, especially if your marginal tax rate is high.

  • Higher Returns

Investing in a TFSA results in high returns. Investing via a corporation is possible, however check with your accountant about the rules around generating passive income in a corporation. 

  • Lower Taxes

Taxes will apply to withdrawals you make from your corporation after you retire. However, TFSAs allow for tax-free withdrawals, meaning that the full amount can be taken out without incurring any taxes.

  • Increased Flexibility

More flexibility is offered by TFSAs than by corporations. The account holder has complete control over TFSAs, but investments in a corporation are subject to legal and corporate governance regulations.

Withdrawing money from your corporation to contribute to a TFSA has numerous advantages which offer long-term benefits.

Registered Retirement Savings Plan (RRSP)

RRSP is a government-sponsored retirement plan offering substantial tax advantages. An RRSP is what’s known as a tax-advantaged account, which means that it was established by the government expressly to offer tax benefits to individuals who invest in them as a means of encouraging them to save money for retirement.

However, any money you contribute to an RRSP will be free from income taxes the year you make the deposit and will only be taxed years later when you withdraw it, as opposed to your earnings being tax-free as is the case with a TFSA. For this reason, RRSPs are a useful tool for reducing current-year tax liabilities.

TFSA vs RRSP

Both TFSA & RRSP will enable you to save money and reduce your tax burden, but they do so in different ways. Knowing how these accounts operate will assist you in selecting the one that best suits your needs right now, as well as when to use them together.

In an RRSP, you receive a tax refund on the money you contribute now, but you will have to pay taxes when you withdraw funds from the plan.  In a TFSA, you pay taxes on money you have earned before you contribute. Making the best choice for your investment money will depend on several factors, including this difference, your income, the timing of your investments, and others.

  • Income and tax bracket

People who earn more than $50,000 per year would be beneficial to invest in an RRSP. This is to ensure your tax liability is reduced by the money you contribute, which is deductible.

The deduction has less value for people making less than $50,000, so investing in a TFSA might be a better option. Because they are unlikely to owe much in income tax after claiming basic tax credits.

  • Time-frame

Longer-term savings objectives, like retirement, are well served by RRSPs. TFSA is a better choice for short- or medium-term savings objectives.

  • Retirement

TFSA withdrawals are always tax-free, regardless of your age or status. RRSP withdrawals are always subject to taxation. If you are retired, you are probably in a lower tax bracket, withdrawals from an RRSP will be taxed at a lower rate than when you earned the money you originally contributed.

Consult with One Accounting to get more details about TFSA, RRSP and other investment options for your small business. Benefits of each plan differ based on the circumstances. It is best to seek professional advice. Contact One Accounting for expert advice. Contact us now!

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