Education – Tax-Free Savings Accounts

Although a TFSA is very different from an RRSP, each of these accounts holds an after tax advantage in returns over a non-registered account. Everyone who is 18 years old and over will be able to contribute to a TFSA, and if you are eligible to make RRSP contributions it will generally be to your advantage to contribute to both.

Realistically, for a large number of Canadians who won’t be able to contribute to both a TFSA and an RRSP, the question becomes: Which one of the two will leave me further ahead?

To illustrate the differences between the TFSA, RRSP and non-registered savings, the Finance Department created a table (See below) comparing the three according to one scenario. The example used a $1,000 one-time contribution, held for 20 years by an individual with a 40% marginal tax rate. The assumed return, implying a very conservatively managed portfolio, was a compound annual 5.5%.

This RRSP investor jumps out to an early lead, since there is a tax deduction that leaves this account with the full $1,000 to invest. The TFSA and non-registered accounts, by contrast, start out with only $600, since they must make their contributions with after-tax dollars.

Both TFSA and the RRSP accounts enable income to accumulate tax-free, while the holder of the non-registered account gets hit with income tax each year. The RRSP extends its lead, since it started out with a larger amount, while the TFSA ranks second and the non-registered account lags.

By the end of 20 years, the value of the net contribution plus investment income has reached $1,751 for the TFSA, 2,918 for the RRSP, and only $1,307 for the non-registered account. (The government’s example for the non-registered account assumes a tax rate of 28% on investment income, based on portfolio returns that are assumed to be composed of (30% capital gains, 30% Canadian dividends and 40% interest).

The great equalizer between the TFSA and the RRSP accounts occurs at the time of withdrawal, which works out to a tax hit of $1,167 for the RRSP. This leaves the RRSP holder with after-tax proceeds of $1,751, thereby finishing in a dead heat with the TFSA holder. (The non-registered account finished last with $1,307).

The key variable is how the tax rate at the time of withdrawal compares to the tax rate at the time of the contribution. Here are the three scenarios, and how they may affect your choice of account:

• If the two rates are identical, as in the hypothetical example cited here, the TFSA and the RRSP are equally effective tax-savings alternatives.
• If the tax rate at the time of withdrawal is lower than at the time of contribution, the RRSP is the better choice.
• If the tax rate at the time of withdrawal is higher than at the time of contribution, the advantage goes to the TFSA.

A lot of people will fall into the category where their tax rates in the accumulation phase are higher because they are in their peak earning years and are paying the highest tax rates of their working life. Presumably, when they are retired they will be paying much lower taxes. Since their contribution tax rate is much higher than the withdrawal tax rate, a RRSP contribution is likely the better option. For the few Canadians who pay a higher rate in their withdrawal years than in their contribution years, a TFSA is probably the superior option.

The RRSP/TFSA versus mortgage pay down is a much harder debate because the right answer depends on so many assumptions made about the future. At first glance, it seems like a no-brainer because investments within a RRSP or TFSA need to earn higher after-tax returns than the low interest rate on mortgages today.  Many experts believe we are in an era of low returns for all asset classes (say 5% for stocks and 4% for bonds) so that a 5% guaranteed after-tax return which can be obtained by paying down the mortgage starts to sound very good. Also, while markets have provided generous returns in the past, the average investor has lagged in the market returns badly due to chasing performance and not controlling expenses.

Unfortunately, if you have X amount of dollars, it is hard to say which option would be the most profitable pick. But, picking any of the three options would be a good move because the bottom line is you are saving money. In an era where the national savings rate is close to zero, that’s a wise move.

The law in the province where you live may allow you to designate a successor holder and/or other beneficiary to your TFSA in the event of your death, by means of a separate designation outside of your will.

A successor holder is someone who takes over your TFSA when you die. The name on the account is changed to the name of the successor holder and that person can continue to hold and operate the tax-free savings account as their own after your death. By law, only your spouse or common-law partner, as recognized by the Income Tax Act (Canada), can be a valid successor holder. If the person who you have designated as successor holder is no longer your current spouse or common-law partner at the time of your death, they cannot become the successor holder of your TFSA.

You can also designate a beneficiary to your TFSA who will receive the funds in your tax free savings account after your death. This person cannot continue to operate your TFSA like a successor holder. The funds in your account are distributed to your beneficiary and your tax-free savings account is closed.

On each TFSA you have with TECU, you can designate a successor holder or a beneficiary or both. If you have designated both a successor holder and a beneficiary, at your death the person designated as your successor holder will become the holder of your TFSA unless that person has either a) died before you; or b) is no longer your current spouse or common-law partner at the time of your death. In either of these situations, the proceeds of the TFSA will be distributed to the person named as your beneficiary.

For advice regarding the tax implications of designating a successor holder and/or a beneficiary to your TFSA, consult your personal tax advisor.

Q: What is a Tax-Free Savings Account (TFSA)?
A: A Tax-Free Savings Account (TFSA) is a registered account. Through a TFSA, you can put your savings into eligible investments and not pay tax on the investment income you earn.

Q: Who is eligible for a TFSA?
A: The idea behind TFSAs is to make the benefits of tax-free savings available to as many Canadians as possible. For that reason, TFSAs are available to every Canadian resident who is 18 years of age or older and has a Social Insurance Number (SIN).

The age of majority is 19 for residents of Newfoundland and Labrador, New Brunswick, Nova Scotia, British Columbia, Northwest Territories, Yukon and Nunavut, which may delay the opening of a TFSA. However, the accumulation of contribution room will start at age 18.

Q: When can I open a TFSA?
A: As of January 2, 2009, you’ll be able to open a TFSA through TECU.

Q: How is a TFSA different from an RRSP?
A: Withdrawals from a TFSA are tax-free and are added to unused contribution room starting the following year. Contributions to a TFSA are not tax deductible.

With a TFSA you don’t need earned income to accumulate contribution room. Everyone has the same contribution room.

There is no requirement to convert the TFSA to an income payment option (i.e. RRIF) at any age.

You can give money to your spouse to open a TFSA without being subject to Canada Revenue Agency’s (CRA) attribution rule.

Q: Can I open a joint TFSA account?
A: No. Similar to registered retirement accounts, such as RRSPs, government rules only permit individual accounts.

Q: Will the TFSA have any impact on my government guaranteed income supplements?
A: Investment income and withdrawals from a TFSA will have no impact on federal benefits.

Q: Will a TFSA replace my other savings accounts?
A: No. While the TFSA is flexible, withdrawals made during the year cannot be re-contributed until at least the following year. Please keep in mind that there is no access to TFSAs from ATMs.

Q: Could I use my TFSA as security for a loan?
A: TECU TFSA Savings may be used for security of a loan at the Credit Union.

Q: How are losses treated in a TFSA?
A: As investment income and capital gains within the TFSA are not taxed, any losses generated in the account can’t be used against other taxable gains.

Q: What happens if the account holder passes away?
A: Generally, earnings that accrue in the account holder’s death will be taxable, while those that accrued before death would remain exempt. However, it would be possible to maintain the tax free status of the earnings if the account holder names his or her spouse or common-law partner as the successor account holder. Alternatively, the assets of the deceased’s TFSA could be transferred to the TFSA of the surviving spouse or common-law partner without any impact on the survivor’s existing contribution room.

Q: Could I still contribute to a TFSA If I become a non-resident of Canada?
A: If you become a non-resident, you would be allowed to maintain your TFSA and you would not be taxed on any earnings in the account or on withdrawals; however, you would not be allowed to contribute and no contribution room would accrue for any year throughout which you are a non-resident. In addition, any withdrawals made while you were a non-resident would not be added back to your contribution room.

Q: How much can I contribute?
A: As of 2021, you can contribute a total of  $75,500.00 to your TFSA.

Q: What if I can’t contribute the full amount?
A: You can carry forward any un-contributed amounts into future years indefinitely. So, for example, if you contributed only $2,000 in 2009, in 2010, you could contribute up to $8,000 (the $5,000 limit for 2010, plus the $3,000 you had left over from 2009, etc). To a total of $75,500.00. in 2021.

Q: How will I know what my contribution limit is for each year?
A: Every year, the government will calculate how much TFSA contribution room you have available. You will be informed of your contribution limit when you receive your T1 Notice of Assessment.

Q: Do I need to have a particular income level to take advantage of a TFSA?
A: There is no minimum or maximum income level. Every eligible person will accumulate contribution room each year starting in 2009.

Q: Can I contribute more than my limit in a particular year?
A: If you contribute more than your contribution limit, you will pay a penalty of 1% per month on the excess amount.

Q: Is there a lifetime contribution limit?
A: There will be no lifetime limit on the amount of your contributions. If you are eligible, you will accumulate TFSA Contribution room every year.

Q: Can I make spousal contributions to my spouse’s TFSA?
A: No, you can’t contribute directly to your spouse’s TFSA as you can with a spousal RSP. However, you can give your spouse money, which they can then contribute to their own TFSA.

Q: If I give funds to my spouse to contribute to his or her TFSA, who will get the income, me or my spouse?
A: Your spouse owns the TFSA and will earn any investment income and capital gains in the account.

Q: If there is a breakdown of a marriage or common-law partnership, what will happen to my TFSA?
A: TFSA assets may be transferred between spouses or common-law partners upon marriage or relationship breakdown. However, it’s important to understand the implications of transferring TFSA funds; the spouse who gives some or all of their TFSA funds (due to the divorce/separation agreement) will lose his or her TFSA accumulation room that they’ve acquired since the launch of TFSA because the transferred amount will not be added back to contribution room.

On the other hand, if a plan holder withdraws assets from the TFSA before giving the funds (due to the divorce/separation agreement), then the amount of the withdrawal will be added back to the contribution room of the transferring spouse for the following year, allowing the plan holder to continue to benefit from tax-free investing. The receiving spouse will be able to contribute to their TFSA, but only to the extent that they have their own contribution room.

Q: When can I withdraw my money?
A: You can withdraw funds from your TFSA any time you want – you don’t have to reach a certain age before you withdraw your money.

Q: Do I have to pay income tax on my withdrawals?
A: No, you don’t have to pay tax on the amounts you withdraw.

Because TFSA withdrawals don’t count as taxable income, they don’t affect federal income-tested benefits or tax credits you may receive, including the Canada Child Tax Benefit, the Working Income Tax Benefit, the Goods and Services Tax Credit and the Age Credit. TFSA withdrawals also won’t reduce benefits based on your income level, such as Old Age Security, the Guaranteed Income Supplement and Employment Insurance benefits.

Q: What can I spend the money on?
A: Anything you want. You could wait until you retire and use it to supplement retirement income you have from pensions, RRSPs or other sources, but you can also use it for short-term savings goals like a new car or a vacation, or for needs that arise suddenly like repairs to your home.

Q: Once I’ve withdrawn my money, is that contribution room lost?
A: No, you never lose your contribution room – in fact, you can re-contribute amounts you have withdrawn. You have to wait until the next year to re-contribute, but you can carry forward the re-contribution room indefinitely.

For example, say you contribute $5,000 to your TFSA in January 2009 and another $5,000 in January 2010. Then, in the summer of 2010, you withdraw $3,000 to pay for some repairs to your home. You can’t re-contribute that $3,000 in 2010, but in 2011 it will be added to your contribution room again, meaning you could contribute up to $8,000 in 2011.

Q: Are there any restrictions on withdrawals?
A: No, you can take out as much of your money as you want, whenever you want, and use it for anything you choose.

Q: What kind of investments can I hold in my TFSA?
A: At TECU, you can choose from our TFSA Daily Interest Account, Our TFSA Term Deposit or our TFSA Index-Linked Term Deposit. For full investment information, please visit the TFSA information page on the Canada Revenue Agency’s Website.

Q: I have a lot of RRSP contribution room left over. Can I carry some of it over to my Tax-Free Savings Account (TFSA) so I can make a larger TFSA contribution?
A: You cannot carry-over your RRSP contribution room to your Tax-Free Savings Account (TFSA). Similarly, TFSA contribution room cannot be carried over to your RRSP.

Q: Can I borrow to invest in my Tax-Free Savings Account (TFSA)? Is interest paid on money borrowed to invest in my TFSA tax-deductible?
A: You can borrow to invest in your Tax-Free Savings Account (TFSA); however, interest paid on the money borrowed is not deductible for tax purposes.

Q: Will I get a contribution receipt for tax purposes for contributing to my Tax-Free Savings Account (TFSA)?
A: You will not get a contribution receipt for tax purposes because contributions to your Tax-Free Savings Account (TFSA) are not tax-deductible. You will get a confirmation of your contribution either through a transaction confirmation or your account statement, depending on the type of TFSA or type of investments you have in your account.

Q: Can I own more than one Tax-Free Savings Account (TFSA)?
A: There is no limit to the number of Tax-Free Savings Accounts (TFSAs) you may own – although the annual TFSA Contribution limit applies. Your TFSA contribution room is the same regardless of the number of TFSAs you hold.