By Dale Roberts, Cutthecrapinvesting
Special to the Financial Independence Hub
It’s the new year and you may have a couple of questions on how to use your TFSA account. The Tax Free Savings Account is one of the greatest additions to your investor tool kit. It is true to its name in that the monies grow completely tax free. When you take the monies out for spending there are no tax implications. We need only keep track of our contribution limits.
Out of the gate it’s important to know the contribution allowances. The program was launched in 2009 (the brainchild of then federal Finance Minister Jim Flaherty). The initial contribution limit was $5,000. There is also an inflation adjustment mechanism and that is why you will see the TFSA limits increase over time.
TFFA Limits History
- The annual TFSA dollar limit for the years 2009 to 2012 was $5,000.
- The annual TFSA dollar limit for the years 2013 and 2014 was $5,500.
- The annual TFSA dollar limit for the year 2015 was $10,000.
- The annual TFSA dollar limit for the year 2016 and 2018 was $5,500.
- The annual TFSA dollar limit for the year 2019 was $6,000.
- The annual TFSA dollar limit for the year 2020 was $6,000.
- The annual TFSA dollar limit for the year 2021 is $6,000.
The total contribution allowance to date is $75,500 for 2021. You can carry forward any unused contribution space. Keep in mind that the eligibility for TFSA is based on age of majority. You would have had to have been 18 years of age or older in 2009 to qualify for that full amount. You would also have to be in possession of a Social Insurance card/number.
If you reached age of majority in 2018, that would be your first year of eligibility. To date your contribution limit would be …
Starting the TFSA in 2018
2018 – $5,500, 2019 – $6000, 2020 – $6,000, 2021 – $6,000 for a total of $23,500.
Of course we have to wait for January 1 or later to use that $6,000 for 2021.
Remember if you go over, you will be penalized by 1% per month, for the amount that you have overcontributed. Check with CRA for your contribution eligibility.
Reader question on over contribution
“Ooops, I over contributed in December of 2020.” If you recently jumped the gun and overcontributed by $6000 you would be charged 1% per month, meaning a $60 penalty. Thing is you earned another $6,000 in contribution space on January 1, 2021. You would only face one month of over contribution. You might as well sit tight. You would not be able to have that contribution reversed, even if you quickly move that money out of the TFSA account. If you move the monies in and out there will be no benefit, but you could created fees if it is stocks or ETFs.
If you ever make a more costly (but honest) mistake on over contribution, you can take that up with CRA and your financial institution. It’s possible that you might get some help from your institution or from the CRA. Good luck.
Calculating your TFSA after removing amounts
The formula or rule is quite simple. If you remove $12,000 in one year, you would add that full amount to next year’s contribution allowance. And of course that contribution allowance would also include that calendar year’s new room. For example if you took out $12,000 in calendar year 2020, you would add that $12,000 to the $6,000 allowance for 2021. Your 2021 contribution allowance would be $18,000.
Yes, you get to keep any contribution room gains you made in your TFSA if you sell. You lock in that space. Those investment gains can boost your total TFSA contribution room above the calendar year totals.
This event may be considered if you were looking to use or gift some monies next year. You might sell now and lock in that TFSA space. Obviously, if you’ve been investing those monies, your account is likely or should be at an all-time high.
Please note that if it is a stock or bond or ETF or mutual fund, the trade has to settle within the calendar year. Check with your discount brokerage or advisor on timing and settlement details.
Saving or Investing for your TFSA?
I am a big fan of using your TFSA for investing. There’s the potential or likelihood of much greater gains and hence much greater tax savings when you invest your TFSA dollars.
Also consider that interest rates are sooooo low you might have very modest ‘gains’ with any savings account. The benefit of the TFSA for savings is more muted in a low interest rate environment.
But of course, 2020 proved to many the importance of that emergency fund. You might hold an emergency fund that is 6 months of total spending needs as a starting point. Here’s my personal finance book, OK it’s a blog post …
Oh look, I just found $888,000 in your coffee.
And it can make sense to hold some cash as a portfolio asset. After all it’s an obvious hedge for any deflationary environment. The spending power of cash will increase in any deflationary period.
On that cash front you might consider EQ Bank where you can earn 1.5% in a savings account and 2.3% in registered account such as that TFSA. You may choose to hold some TFSA amounts in savings and some in higher growth investments.
On the investment front you might consider a one-ticket (all in one) ETF portfolio such as those from Horizons, iShares, BMO Smartfolio, Vanguard or the TD One Click Portfolios.
You may decide to build your own ETF Portfolio.
On the mutual fund front you might have a read of this post from Jonathan Chevreau on the top mutual funds in Canada. I am a big fan of those funds from Mawer.
Beneficiary form – successor holder
Ensure that you fill out a beneficiary form for all of your registered accounts. For taxable accounts you might consider joint accounts.
With respect to your TFSA and RRSP/RRIF accounts, when you designate a spouse they become a successor holder. If one spouse passes away the other spouse would inherit the TFSA amount and the contribution space as well. If one spouse has a $100,000 TFSA and obtains their spouses $100,000 by way of that successor holder beneficiary form, they would have a $200,000 TFSA portfolio and an additional $100,000 of contribution space. It is a tax-free transfer.
The successor holder status only applies to a spouse. The benefit of a beneficiary designation for a non-spouse is the quick and easy move of money to a beneficiary upon death. A beneficiary form and designation even supercedes the power of the will (except for Quebec). In Quebec assets are governed by the will.
Of course, contact the CRA and a tax professional to confirm ‘all of the above’ and any special circumstances.
The right mix of TFSA and RRSP for retirement
The rule of thumb is that if your income is below $50,000 you might be better off contributing to a TFSA compared to RRSP. And if you estimate that your tax rate will be lower in retirement compared to working years you may likely be better of with the RRSP route. Your tax break for making an RRSP contribution is greater than the tax hit when you remove those monies for spending.
That said, I am fan of using both programs. You might contribute to your RRSP to generate a tax return refund, and direct those tax refund monies to a TFSA. On this topic here’s a great post courtesy of Jim Yih at Retire Happy.
Mark Seed and friends also offered some thoughts on the TFSA in this Weekend Reads post.
To see estimates and projections and find your retirement roadmap you can check in with a fee-for-service financial planner. There are so many moving parts when it comes to retirement planning and funding. Most of us will benefit greatly by way of advice from a qualified retirement expert.
Thanks for reading. If you spot any errors or can think of a useful addition, please send me a note by way of that contact form, or add a comment on this post.
Dale Roberts is the Chief Disruptor at cutthecrapinvesting.com. A former ad guy and investment advisor, Dale now helps Canadians say goodbye to paying some of the highest investment fees in the world. This blog originally appeared on Dale’s site on Dec. 26, 2021 and is republished on the Hub with his permission.