TFSAs: A Part of Sound Year-End Planning

With year-end tax planning now in our thoughts, one investment option to consider is the Tax Free Savings Account (TFSA). 

This investment option has been in place since January 1, 2009. This is a registered account for residents of Canada 18 years or older and is a great way to save for short or long-term goals. The benefits should be discussed before year-end to plan savings for 2014.

Any income earned in the TFSA such as investment income and capital gains accumulates tax free. Withdrawals from a TFSA  are not reported as income. Also, income earned or withdrawn from the TFSA does not affect government benefits such as the Canada Child Tax Benefit (CCTB), the Goods and Service Tax (GST) credit or the Guaranteed Income Supplement (GIS). That makes it an important savings vehicle for people who count on receiving the full amounts of these sources.

Each year, contributions can be made to the TFSA up to the maximum dollar limit for that calendar year, plus the unused contribution room from the previous year and plus amounts that were withdrawn in the year before. The annual TFSA dollar limit was $5,000 from 2009 to 2012, but for 2013 the annual dollar limit was indexed and increased to compensate for inflation. The TFSA dollar limit for 2013 is $5,500. Total available contribution room for 2013 is $25,500; starting in January 2014 that will rise to $31,000. Every adult in the family should try to maximize this opportunity. 

Note that if you over-contribute to your TFSA, you will be taxed 1% per month as a penalty until the excess amount is withdrawn. As stated above, when you make withdrawals from your TFSA the corresponding contribution room does not become available until the start of the next calendar year. Tax and financial advisors should discuss this trap with their clients.

Investments permitted within a TFSA are the same as those permitted within a Registered Retirement Savings Plan (RRSP). However, unlike the RRSP, there is no tax deduction for contributions made to a TFSA. Also note there are rules prohibiting a TFSA from making investment in any entity with which the account holder does not deal at arm’s length. 

So the question remains: What comes first, the TFSA or the RRSP? The answer lies in the year-end tax planning astute investors and advisors embark on today to customize wealth management plans for the whole family.

Kareen Rekowski, MFA, works at Renfrew and Area Seniors' Home Support Inc. as Chief Finance Officer, and is an experienced personal and corporate tax practitioner operating her own business KARE Accounting Services.