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TFSA: An instruction manual on how to maximize your benefits

Posted on Thursday November 12, 2020

TFSA: An instruction manual on how to maximize your benefits

Do you have lots of plans in mind? We understand! Whether you're buying a house, planning a trip, starting a business or simply retiring, the TFSA is the ideal savings plan because it allows you to save tax-free. To avoid a big tax bill, however, certain rules must be followed.

Do more with the TFSA

Your money works for you. What does this mean? What you set aside should never stay in your chequing account for too long, as it earns almost nothing. By putting your savings in a TFSA and placing it in an investment vehicle (mutual funds, bonds, etc.), you earn tax-free interest. In short, your money makes money, and it can be withdrawn at any time.

With an annual contribution deadline of December 31, a TFSA is an excellent complement to an RRSP for anyone with savings and plans in mind. The differences between TFSAs and RRSPs are important, and it’s wise to be well informed before making a choice.

Your money, in your pocket

What grows in your TFSA goes directly into your pocket. We like that! The name Tax-Free Savings Account (TFSA) says it best: interest and withdrawals are tax-free. For example, if you invest $6,000 and earn 6% interest, neither the initial amount (which has already been taxed) nor the 6% will be taxed when you eventually withdraw it. In another type of account, the interest would be considered investment income and would therefore be taxable.

The TFSA exempts you from Canadian tax, but if you move outside of Canada, inquire about the rules in your country of residence.

The basics: Learn how the TFSA works

An innocent mistake could cost you dearly. That's why you should always keep a number of rules in mind. In order to avoid unpleasant surprises, the Government of Canada has prepared a guide for investors.

In New Brunswick, you must be at least 19 years of age and have a valid Social Insurance Number to exercise your right to contribute. Contributions that you don’t use can be carried forward to future years. If you're 28 years old and this is your first contribution, you’ll be able to contribute a considerable amount!

The limit must be respected

You may dream of shattering a glass ceiling, but this doesn't apply to the TFSA contribution limit.

The maximum contribution varies from year to year. In 2020, someone who was eligible as early as 2009 and has never contributed before will be able to contribute up to $69,500. From 2009 to 2012, the maximum amount was $5,000. In 2014 and 2015, it was increased to $5,500 and $10,000 before decreasing to $5,500 in 2016. Since 2019, the maximum amount has been $6,000.

Frequent contributions and withdrawals

Although the TFSA is an investment vehicle that allows for withdrawals at any time, it should not be used as a current account. In other words, it's not designed for day-to-day transactions. Every year, thousands of taxpayers receive an automatic notice of assessment due to over-contributions or repeated contributions. To avoid this unpleasant surprise, your trusty old chequing account remains the best financial vehicle for your day-to-day transactions.

Before each deposit, think!

More flexible than a yoga teacher, the TFSA allows you to withdraw your money whenever you want. You can even put the money back in the TFSA with one important rule: wait until the following year. Once your annual limit is reached, if you withdraw $1,000 and put it back into your TFSA in the same year, this amount will be considered an over-contribution and will therefore be taxable. For this same reason, it's also prohibited to contribute directly to your partner's TFSA.

The rues of investment

What to invest in your TFSA

Anything is possible! Or almost. The TFSA is a savings plan that offers a wide range of investments, from fixed-term guaranteed investment certificates to mutual funds or corporate shares. Only labour-sponsored funds aren’t eligible.

The TFSA: A savings tool for taxpayers

The TFSA is not intended for speculation. More specifically, it's an additional tool that allows taxpayers to set money aside and accumulate tax-free interest for a project or retirement. If the volume of transactions in a TFSA is too high, the Canada Revenue Agency (CRA) may consider these investments as business activity, not savings. So that it can continue to benefit savers, the objective is to avoid any misuse of this savings tool by professional investors.

Types of investments not eligible for the TFSA

While most common investments (mutual funds, publicly traded stocks, bonds, GICs, etc.) are eligible, there are a few investments that aren't, mainly because of the potential conflicts of interest they raise. The Canada Revenue Agency's definition of prohibited investments should be consulted to avoid unpleasant surprises.

The main pitfalls to expect

We always end up paying dearly for our mistakes. Because it's sometimes misunderstood, the TFSA has made headlines a few times after savers were left with a hefty tax bill. To find out how much you can contribute, call the CRA's Tax Information Phone Service at 1-800-267-6999 or check your account online. You should also keep your own records since the CRA only updates its data once annually. For example, if you have TFSAs at more than one financial institution, don't forget to add up all your contributions.

Excess contributions

No one wants to see their hard-earned money go up in smoke! Individuals who over-contribute to the TFSA must pay a tax of 1% per month on the over-contribution. Never over-contribute if you don't want to pay an unnecessary penalty. Also, be careful not to empty or close a TFSA to open another one in the same year, as your deposit to the new TFSA will be considered a new contribution. Instead, ask your financial institution to issue a transfer, which will have no tax impact.

Non-residents of Canada are prohibited from making contributions

It's not easy to leave one's country. Canadians who are no longer residents of Canada can no longer contribute to their TFSA, but what they contributed while they were residents will continue to grow normally. If this is the case for you, be vigilant: the CRA system, which doesn’t necessarily know your residency status, may tell you that you’re entitled to contribute $12,000 to your TFSA, when in fact you can't contribute for the current year. That's why it's important to keep your own records!

Do you have any questions on the TFSA?

Find out more about saving money in a TFSA at UNI. Contact us for advice!

In New Brunswick, the legal age at which an individual can enter into a contract (including opening a TFSA) is 19. However, beginning in 2009, an 18-year-old individual who would otherwise be eligible can accumulate TFSA contribution rights for that year and add it to the following year's TFSA contribution limits.

Mutual funds are available through Credential Asset Management Inc. Mutual funds, other securities and securities-related financial planning services are offered through Credential Securities, a division of Qtrade Credential Securities Inc. Credential Securities is a registered trademark of Aviso Wealth Inc.

The information contained in this article was obtained from sources believed to be reliable; however, we cannot guarantee that it is accurate or complete. This article is provided as a general source of information and should not be considered personal investment advice or a solicitation to buy or sell any mutual funds and other securities.

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RRSP or TFSA: Which Should You Choose While You're Young?
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