TFSA: sounds fancy. The financial institutions will tell you to open a TFSA and it's TAX FREE, but do you really know what it's all about?
What is a TFSA?
TFSA stands for Tax Free Savings Account. In 2009, the government of Canada introduced a new way for Canadians to save money for retirement, a rainy day and more. But it's so much more than a "savings" account.
You can invest in a TFSA!
Although the name includes the word "savings", this account is a solid account for investments. Whether you invest in mutual funds, ETFs, stocks, bonds or REITs, this account can help grow your savings on a tax-free basis!
Wait, so what do you mean by tax-free?
Each year, as of 2017, you can contribute $5,500 of your hard earned cash into your TFSA. From there, any dollar made or lost inside of the account can be withdrawn at any time without paying taxes on it!
If you remember my post about saving $3,600 a year, you could invest that amount into a TFSA and grow it over time. By not paying tax on your earnings, you grow the account faster than if you had a normal non-registered account.
What's the difference between a non-registered and registered account?
Like the RRSP, the TFSA is a registered account. This means the government will only let you put in a certain amount of cash into the account, and let you invest in certain assets.
With a non-registered account, you don't have government restrictions on which assets to purchase or how much to put in. Restrictions will be based on your investment brokerage. However, you do pay taxes on your profits!
What are the restrictions for putting in cash?
The TFSA started in 2009.
For 2009-2012, each year you could put $5,000.
For 2013-2014, you could put $5,500.
In 2015, that increased to $10,000.
But from 2016-2017, we went back to $5,500.
So, to put it simply: if you were 18 years old in 2009 and never invested a penny into a TFSA, you could invest $52,000 today!
Your maximum limit is based on when you turned 18 years old.
Example: if you were 18 years old in 2015, your maximum limit would be $21,000 (10,000+5,500+5,500)!
With that said, you don't have to add $5,500 each year. As you can tell, if you didn't contribute the amount that year, you can carry it forward to the next year! But be careful, you don't want to over-contribute to a TFSA.
What if I over-contribute to my TFSA?
Well, you'll be hit with interest! Each month that you are over your limit, the government will charge you 1% per month! If you put $1,000 over and you forget about it for 12 months, you'll be charged $120!
Always speak to your accountant or investment advisor about your contribution room for the year: they can access your contribution room for both TFSAs and RRSPs straight from the government or calculate it based on information you provide them!
What about withdrawals?
At any time in the year, you can withdraw money from your TFSA. However, you can't just put that money back into the account without thinking.
The government restricts your total contributions to the plan. To explain how withdrawals will affect this, let me explain with an example:
It's 2017 and I've maxed out my TFSA in previous years (I have a total of $46,500 in the account since I added the maximum each year since 2009).
On January 20th, I invest $5,500 into my TFSA for the new 2017 room I have (Total added: $52,000).
After a few months, I decide I want to buy a new laptop for myself. So, I dip into my TFSA on June 12th and withdraw $1,000.
So far, no restrictions. All is good, until I decide I want to invest that $1,000 later in September because I got my bonus from work.
Since I withdrew $1,000 and have no room left to invest for this year or from previous years, I cannot put this $1,000 back in the account now. Why? Because the government will see this as me putting in $6,500 into the account in 2017 but our maximum is $5,500!
Since I maxed out previous years and used up my $5,500 for 2017, I have to wait. Any withdrawals you make in the year can be added back in the next year.
Therefore in my situation, in January of 2018, I can invest $1,000 that I withdrew from last year plus a brand new $5,500 allowable room from the government.
How many TFSAs can I have?
You can have as many as you want! However, that limit applies to your accounts as a whole, not per account.
If you have 3 TFSAs, your yearly contribution room available would be $5,500. Not per account, but as a total. So you can put $1,000 in A, $3,000 in B, and $1,500 in C. BUT NOT $5,500 in each!
I stress this point because I've seen clients who've misunderstood the rules and regulations of TFSAs because nobody explained the details of how it works.
In summary, TFSAs are wonderful accounts to use for investing. You don't need to hold only cash in your TFSAs. You can also invest in stocks, mutual funds and more with these accounts.
Feel free to ask us how and we'd be happy to help!
Till next time,