In this era of severe tax scrutiny it is important to plan your savings to avoid paying large tax liabilities while fulfilling a financial goal. Studies conducted by Statistics Canada report a Household Savings Rate of 5.4% in Canada, which is 0.4% more than the previous year. However, studies conducted by BMO Bank of Montreal found that out of people participating in savings plan only 48% of Canadians invest in tax-free savings accounts (TFSA). Although a higher rate as compared to past years, the percentage of Canadians utilizing TFSAs should be even higher given its many advantages.
The BMO study also found that most Canadians are uninformed about tax-free savings accounts and their workings. AG Tax professionals have prepared a brief overview of the TFSA, which may be useful for individuals considering saving more or diversifying their investments.
Tax-Free Savings Account (TFSA)
A TFSA allows Canadians to save after-tax dollars without charging taxes on the interests/dividends or capital gains earned and/or withdrawals. This differs from qualified retirement plans that charge taxes on withdrawal, or non-qualified accounts that levy taxes on the interest or dividends earned.
Who is eligible to open a TFSA?
Any Canadian resident who is above 18 years of age and holds a valid Canadian social insurance number (SIN) can open one or more TFSA.
What is the annual contribution limit?
Individuals can contribute up to $5,500 annually into their TFSA for 2014. If several TFSAs are held, the total amount contributed in all these accounts should not exceed the limit of $5,500
Advantages of owning a TFSA
– Although most individuals use it like a savings account and save in cash, a TFSA allows holding investments like mutual funds, stocks, bonds, etc. The accrued incomes on these investments are tax-free.
– Contributions can be made even after an individual is above 71 years of age unlike Registered Retirement Savings Plans (RRSPs) which require individuals to discontinue contributions after age 65.
– If the annual contribution limit of $5,500 has not been maxed out in a certain year, additional contributions can be made in the future to catch up of the unused portion of the contribution limit.
– Money can be withdrawn at any time from a TFSA. One does not need to wait for the asset to mature until a certain date.
– Withdrawals from TFSAs do not affect benefits or assistance programs like child tax benefits, old age security or others, thus generating tax-free income without affecting any government provided support.
– Funds held in a TFSA can be transferred to a spouse or common-law partner; likewise, the account can also be transferred to the spouse or partner upon death.
Situations under which a TFSA may be taxable
– Any contribution above the allowed limit of $5,500 during a particular year will be subject to a penalty tax of 1% on a monthly basis until the balance of the account is reduced to the allowed contribution limit. However, if the individual had made contributions lower than the allowed limit in the past years no tax will be charged assuming the additional amount to be catch-up contribution (up to the $31,000 limit as of 2014).
– If a holder of a TFSA acquires a non-qualified investment, or a qualified investment becomes non-qualified, he/she would be liable to a one-time tax of 50% of the fair market value (FMV) of the property as of the date it became non-qualified.
– If a TFSA held investment is prohibited or becomes prohibited, a one-time tax of 50% of the FMV of the property (as of the day it was acquired or became prohibited) is payable by the account holder.
– A 1% tax is chargeable per month on any contributions made by an account-holder during the period in which he/she was a ‘non-resident’ from a tax perspective as per the Canada Revenue Agency (CRA).
– If the holder of a TFSA or a person not dealing at arm’s length with the holder is provided with an advantage , such as a loan/debt or an increase in FMV, the TFSA holder will be subject to a penalty tax on either the FMV of the benefit or value of the loan/debt.
Please note that there are significant filing requirements and potential penalties for U.S. persons holding Canadian Tax Free Savings Accounts. Please consult with a qualified cross-border tax advisor before opening a TFSA if you have an U.S. ties. See this article (Tax obligations for foreign nationals residing in the U.S.) here for more information.
Planning your savings is a good way to add security to one’s future while potentially minimizing tax. It is best to consult a tax or financial professional regarding the most suitable savings strategy for an individual based on his/her needs and the applicable tax laws.
AG Tax LLP Can Help
If you have any tax-related queries or need assistance with tax planning or filing please contact AG Tax. Our tax professionals are highly-experienced with U.S. and Canadian tax laws and can provide you the right guidance to handle your tax situation.
Aylett Grant Tax LLP is a full service accounting firm with a dedicated team of experts, who are highly-qualified and experienced in handling situations related to U.S., Canadian, and other international tax laws.
We can assist with:
- Canadian Personal and Corporate tax returns
- Cross Border Taxation and Business Planning
- U.S. Personal and Corporate Taxation
- Disclosure of Foreign Assets and other information filings
- Retirement planning
- Estate Planning, Inheritance tax advice
To obtain a quote or to arrange for a consultation to discuss your tax related queries, please contact us at:
- 416-238-5920 (Greater Toronto Area, ON)
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Disclaimer: The information in this publication is accurate as of the time of its publication. AG Tax assumes no responsibility for changes to tax legislation subsequent to the publication of this document. The information provided is for general information purposes only and should not be acted upon without seeking professional advice. If you would like to engage our services, please contact our staff and obtain authorization to send our firm confidential information. A client relationship is not created by the transmission of information. A client relationship is only formed with our firm when a scope and engagement letter signed by the firm and the potential client detailing the terms of engagement is present.
