In 2008, then Federal Finance Minister Jim Flaherty introduced the Tax Free Savings Account. “We already have a retirement plan. This is a savings plan for everything else,” he explained.
Perhaps that comment, as well as the name of the plan (not to mention the heavy advertising by banks), is the reason that most people are using the TFSA as a savings vehicle for near-term expenditures such as a new car or a home renovation. A high percentage of investment dollars continue to sit in low interest rate products such as GICs and high interest savings accounts (Globe and Mail).
For building an emergency fund or short-term savings a TFSA is still ideal. However, now that it’s been around for a few years, it’s time to rethink its usefulness as an investment strategy to complement the retirement plan.
Related: Why TFSAs are still misunderstood
Anyone who was at least 18 years old in 2009 and a Canadian citizen can contribute to a TFSA, and you don’t have to have earned income or file a tax return. It may not have seemed like a big deal at first to deposit $5,000 a year, but now the full amount of contribution room is up to $46,500 (2016) or $93,000 for a couple – much more than you would need for most short-term goals or unplanned savings.
TFSA vs Home Buyers’ Plan
If you’re saving for a down payment on a home, the TFSA is a preferable alternative to the Home Buyers’ Plan. Sure, you get a tax refund from the RRSP deposit, but here are some of the conditions:
- You are limited to a withdrawal of up to $25,000 ($50,000 for a couple) in one calendar year.
- Your contribution must stay in the RRSP for at least 90 days before withdrawal.
- It can only be used for a qualifying home that you must occupy as your principal resident within one year after buying it.
- You have up to 15 years to repay and must start the repayment by the second year after the year of withdrawal.
In contrast, with a TFSA you can withdraw the total amount contributed plus any returns at any time and for any purpose, and it has a more flexible repayment plan.
Longer-term retirement purposes
Instead of thinking of a TFSA as a secondary investment vehicle with the bulk of savings going to RRSPs, reconsider the investments held within the account. Once portfolios start getting larger you can start thinking about longer-term purposes and increase the equity content in order to supplement your retirement savings in addition to short-term savings.
Historically, people were advised to wait to draw from RRSP/RRIFs as long as possible to have tax sheltered growth. Instead of waiting we should be drawing out smaller amounts of money earlier to smooth out and lower the overall taxes we pay year over year as recommended by Daryl Diamond in Your Retirement Income Blueprint, and still utilize the TFSA for further tax-free growth.
According to a CIBC poll, many Canadians have no plans for the money they’ve been saving in their TFSA. But, you will get more out of it if you take some time to make plans for the funds you are investing.
Rather than letting your TFSA funds languish in a low interest account, think about how you can make the most of the tax-free benefits of this plan, both in the short-term and long-term.
Are you using it to the full advantage?