A Registered Retirement Savings Plan (RRSP) is similar to other investments, except that it grows on a tax-deferred basis. In fact, an RRSP can be made up of almost any number of investments: mutual funds, a stock, a GIC or even a daily interest savings account.

The difference between an RRSP and other investments is that when you put money into your RRSP, that money is deducted from your income at tax time which means that you could get some of that money back as a tax refund. For example, if you earn $50,000 and invest $8,000 in an RRSP, you only get taxed on $42,000.

Earnings on your investment are also exempt from taxes as long as you keep them in your RRSP. Once you withdraw from your RRSP, the money is added back to your regular income and is subject to taxes and penalties.

A legal trust registered with the Canada Revenue Agency and used to save for retirement. RRSP contributions are tax deductible and taxes are deferred until the money is withdrawn. An RRSP can contain stocks, bonds, mutual funds, GICs, contracts and even mortgage-backed equity.

RRSPs have two main tax advantages:

1. Contributors deduct contributions against their income. For example, if a contributor's tax rate is 40%, every $100 he or she invests in an RRSP will save that person $40 in taxes, up to his or her contribution limit.

2. The growth of RRSP investments is tax sheltered. Unlike with non-RRSP investments, returns are exempt from any capital-gains tax, dividend tax or income tax. This means that investments under RRSPs compound at a pretax rate.

In effect, RRSP contributors delay the payment of taxes until retirement, when their marginal tax rate will be lower than during their working years. The Government of Canada has provided this tax deferral to Canadians to encourage retirement savings, which will help the population to rely less on the Canadian Pension Plan to fund retirement.

Non-RRSPs and RRSPs:

Now, more than ever, Canadians may want to consider using a combination of registered and non-registered investments to save for their retirement.

As always, if individuals have both non-registered and registered assets, it is more tax-efficient to structure the investments so those that generate interest income are held within the RRSP and those that generate capital gains are held outside the RRSP. Individuals may want to set up their portfolios as follows.

Non-RRSPs

• Hold growth-oriented stocks and equity mutual funds outside RRSPs
• Consider index funds, which have low securities turnover (and management fees); choose physical-based index investments to generate capital gains, as opposed to derivative-based index funds, whose earnings are fully taxed as ordinary income

RRSPs

• Hold bonds and other fixed-income instruments inside RRSPs
• Consider actively managed equity mutual funds and portfolios (no tax implications as securities are traded) Invest a tax refund as part of the following year's contribution to maximize tax deferral