Tax-Free Savings Accounts
TFSAs are one of the greatest inventions of the modern era in terms of saving and investing money for the future.
If you have money lying around in any “non-registered” bank or savings account, the income you earn from these investments will be subject to tax. You can save this tax by transferring the cash or investments from your non-registered accounts into a TFSA.
The reason why the TFSA is a great tool for saving money for the future is because all the income that is earned from investments held in this account is completely tax-free. The compounding effect over many years of this savings that gets reinvested continues to grow tax free.
Here is a great article from The National Post about one man’s TFSA success story:
How TFSAs Work
Every Canadian resident aged 18 years or older is eligible to open a TFSA.
You can contact your bank to open the account
Every year, you can contribute a maximum of $5,500 into the account.
In past years the amounts were as follows:
2009 – $5,000
2010 – $5,000
2011 – $5,000
2012 – $5,000
2013 – $5,500
2014 – $5,500
Any unused contribution room is carried forward to future years. This means if you have not contributed any money into your TFSA yet, you can contribute up to $31,000 this year (2014).
You can withdraw money from the TFSA without any penalty and without paying any tax.
Once the cash is in the TFSA, it can be invested into GICs, bonds, mutual funds, stocks etc.
Any income earned from the investments is tax-free.
Contributions into the TFSA are not tax deductible (unlike RRSP contributions which are a deduction from income).
Income earned within a TFSA is not taken into account for eligibility for: Canada Child Tax Benefit, Old Age Security, Guaranteed Income Supplement.
Funds can be given to a spouse or common law partner to contribute into their TFSA.
Avoid These TFSA Mistakes
You cannot contribute more than the above listed amounts. If you do, there is a penalty.
Be careful transferring investments from your “non-registered” account to the TFSA because on the date of the transfer, there could be a deemed disposition of the investments and capital gains tax might be applied.
Contact your tax professional before making these decisions to discuss.
Be careful of the following scenario:
January 2014 – you contribute the maximum for the year $5,500
February 2014 – you withdraw $1,000
You cannot then put back the $1,000 into the TFSA because you already maxed out the contribution room in January 2014. You have to wait until 2015 to put back the $1,000.
U.S. citizens who are residents of Canada are allowed to open TFSAs but the income earned in these accounts will be included in their U.S. tax returns and tax will be owing to the U.S. for this income. Therefore, for U.S. citizens who are Canadian residents, the TFSA is not really tax-free.
If your TFSA holds stocks of American or other foreign companies, foreign withholding taxes will be withheld on the income earned in the TFSA so before purchasing foreign assets in the TFSA, one should consult with their tax advisor.
RRSPs VS TFSAs
The question of whether to contribute your money into an RRSP or a TFSA is not a simple matter. The answer depends on your age, level of income, short-term goals, long-term goals etc.
Contact your tax professional to discuss your specific situation and details in order to determine what is the best course of action for you personally.