John makes 10 annual contributions of $5,000 and receives an 8% annual return. He stops investing after 10 years, and holds on to the investment for a further 10 years, at an 8% annual return. Susan makes 10 annual contributions of $10,000 at an 8% annual return. She ends up with less than John, even though she invested twice as much money, because she started later and invested for a shorter period. So, the sooner you invest, the more time your money has to grow and benefit from the power of compounding.

Many factors affect the reasons why you would choose to purchase the TFSA or RRSP. This article will try to simplify some of these in order to help you make an educated decision.

RRSPs are great investments if used properly. They provide a tax deduction based on the current income tax bracket the investor falls under. TFSAs do not give this deduction. Many people fall into the trap of investing money into RRSPs while they are in a lower tax bracket. Have you purchased your RRSP yet? Bank tellers are very good at asking this question of each customer every January and February, regardless of their financial situation. This is poor planning and the wrong approach to investing in RRSPs. The best scenario for RRSPs is investing while in a very high tax bracket (over $81,452 for 2009) and leaving the money invested until retirement. Then redeeming it slowly while in a much lower tax bracket. The answer to our initial question is easy here – RRSPs would work very well.

There are times when those with lower income should still purchase RRSPs – such as when they want to take advantage of the government’s First Home Buyer’s Plan, or if they are very good at reinvesting their tax savings (most are not that dedicated though).

Another example, and perhaps the most common, of where RRSPs don’t work as well, is when the investor spends the annual tax savings. What should be done is to put this toward raising your net worth, for example, reinvesting or paying down the mortgage. Another way to increase net worth…buy a new television?

TFSAs are also great vehicles to invest in. A mistake was made by the government in naming these investments as Tax Free Savings Accounts. To most clients I have talked with, this name implies that these investments must go into a Bank savings account, which are typically very limiting in earning potential. In reality you have many other investment options available, such as mutual funds or a GIC. The greatest benefit of TFSAs is the amount of money that can be made and that no tax will have to be paid on the growth. In retirement an added benefit of these investments is that all money taken out will not be added to income. This can be very beneficial, as it will not affect the OAS clawback, something that many retirees dislike about their RRSPs.

The main point of this article is to show you that there is no definitive answer of which investment is correct or better then the other. Rather, there are many different factors in deciding which is better for you in the long term…and this should be done with a Financial Advisor who understands the different aspects of each investment and even more importantly, understands what is important to you.