Tax-Free Savings Accounts: What You Need to Know

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Tax-Free Savings Accounts: What You Need to Know

Written by Mark Gregorski
Fact-checked by Caitlin Wood

Tax-Free Savings Accounts: What You Need to Know

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Personal Finance Saving Savings TFSA

A Tax-Free Savings Account (TFSA) is a government-registered savings account. Unlike a regular savings account, TFSAs allow you to hold a variety of investment products. Any money you earn in a TFSA, whether in interest or capital gains, is not taxable, so you can safely make withdrawals without triggering tax consequences. Contributions to a TFSA are not tax-deductible.

TFSAs were implemented in 2009 by the federal government to encourage and assist Canadians in their savings goals. Since then, TFSAs have grown steadily in popularity, with eager investors looking to supplement their existing savings and avoid taxes at the same time.

The eligibility requirements for opening a TFSA are easy to satisfy: you only need to be 18 years old and have a valid Social Insurance Number. As a result, millions of Canadians have been able to take advantage of this unique financial product to set aside money and grow their wealth tax-free.

How Does A TFSA Work? 

TFSAs can hold a multitude of investment products in various combinations. Eligible investments include:

  • Cash
  • Stocks
  • Bonds
  • Mutual funds
  • GICs
  • ETFs
  • Options
  • Precious Metals

Any money you earn from investments held inside a TFSA is tax-sheltered, meaning you won’t have to pay tax on it.

There are essentially two ways to open a TFSA. The first and most common is through a financial institution, which will manage your investments for you. The second is through a brokerage, which will allow you to create and run a customized investment portfolio unique to your needs and goals.

Check out the difference between a TFSA and an RRSP.

Most people favour opening a TFSA with their bank, as it’s easier to deal with an organization you’re already familiar with. An advisor will meet with you to discuss your investment goals and recommend an investment portfolio suitable for you. Once you’ve settled on which investments you’d like, they’ll open your TFSA, and you can begin contributing funds to the account.

Some financial institutions offer robo-advisors, which are digital platforms that provide automated financial planning. Robo-advisors can help you set up an investment portfolio according to your preferences, make automatic deposits on your behalf, and monitor your investments.

If you’re more of a hands-on investor and feel confident making investment decisions on your own, a self-directed TFSA may be a superior option. The way to go about this is to open a TFSA with an online broker, which will supply you with various tools to help you manage your investments and execute transactions. 

Though brokerages have traditionally been an expensive option due to steep fees, ruthless competition in recent years has since dramatically reduced the cost of self-directed investing. 

Find out what kind of financial advisor you should work with.

TFSA Contribution Room

TFSA contribution room refers to the maximum amount you can contribute to a TFSA on an annual basis. This amount can vary from year to year. The limit for 2021 is $6,000.

However, depending on when you opened your first TFSA, you may be able to contribute much more than $6,000. The “lifetime limit” rule permits lump-sum retroactive deposits for each year that you didn’t contribute, going back to 2009. Your contribution room begins when you turn 18 and accumulates every year after that, regardless of whether you contributed. For example, if you opened your first TFSA in 2021, you could deposit up to $75,000 if you were 18 years old before 2009.

Learn how investing in a TFSA can help you pay fewer taxes.

There’s no requirement to maximize your annual TFSA contributions. If you choose to deposit less than the maximum, you can carry forward the unused portion to future years.

You’re free to withdraw funds out of your TFSA at any time. However, you then can’t redeposit the withdrawn amount later during the same year – you must wait until the following year.

For example, suppose you have $8,000 worth of contribution room at the beginning of 2020, comprised of the $6,000 limit for that year, plus $2,000 worth of unused contributions. If you make no deposits during 2020 and instead withdraw $1,000, the withdrawal will be added to your unused contribution room for 2021. At the beginning of 2021, your contribution limit will be $15,000 ($8,000 carry forward + $1,000 withdrawal amount + $6,000 limit for 2021).

Be careful not to overcontribute to your TFSA. If your total deposits exceed the prescribed limit, the Canada Revenue Agency (CRA) will levy hefty penalties on your account. They will charge you 1% per month on the balance that exceeds the annual limit for as long it remains in your TFSA. 

TFSA Withdrawal Rules

There are no limits on how much you can withdraw from your TFSA, though any amount you pull out can only be re-contributed the following year should you choose to do so. 

Any losses that occur on investments within the account aren’t considered withdrawals.

For example, let’s say you invest $3,000 in various stocks near the beginning of the year, which you hold in your TFSA. By the end of the year, the stocks’ market value declines, and they’re now worth only $1,000. You proceed to withdraw the remaining $1,000 to cut your losses. 

Interested in investing? Check out our beginners guide on investing.

In this case, the $2,000 loss you incurred on your stock investments wouldn’t be recognized as a withdrawal and not affect your unused TFSA contribution room. Only the $1,000 you took out would be considered a withdrawal.

Check out what happens to your TFSA when you die.

What’s The Benefit Of A TFSA Account?

TFSAs are flexible and easy-to-use financial products that enable investors to save money for a wide variety of purposes. They’re ideal for those looking to save money for a down payment on a home or those seeking to complement their existing savings to build a larger nest egg for retirement

The tax-shelter features of TFSAs provide a tremendous benefit, allowing savers to realize extra investment gains that would otherwise have been consumed by taxes. The flexibility to withdraw funds tax-free when needed is also notable.

Though contributions to a TFSA are not tax-deductible like RRSP contributions, its tax-exempt status on investment returns makes it an attractive financial product. Many investors who’ve maxed out their RRSP contribution room open TFSAs to complement their retirement savings plan.

How To Open A TFSA Account

Opening a TFSA is a straightforward process. If you’re at least 18 years of age and have a valid social insurance number, you qualify. 

Contact a financial institution, such as a bank or credit union, to open a TFSA. Certain brokerages also offer TFSAs, an option to explore if you’re interested in a self-directed account. The financial institution will ask you to fill out some essential paperwork and supply supporting documentation to verify your identity.

Tax-Free Savings Account FAQs

Are TFSA fees tax-deductible? 

No, any fees relating to the creation or maintenance of a TFSA are not tax-deductible. Neither is the interest on funds borrowed to contribute.

How do I know how much contribution room I have?

There are several ways to verify your TFSA contribution room:
  • Use your CRA My Account for Individuals 
  • Use the MyCRA mobile app 
  • Use the CRA’s Represent a Client service, which permits an authorized representative to access your tax information.
  • Call Tax Information Phone Service (TIPS) at 1-800-267-6999

Can I open more than one TFSA account?

Yes, there’s no limit on the number of TFSA accounts you can have. However, your total yearly contribution room doesn’t increase with each new account – it remains the same whether you have one account or several. This means that if your entire contribution room for 2021 is $6,000, you can’t deposit any extra funds upon reaching that limit. Doing so will invite costly penalties. If you plan on opening more than one TFSA account, ensure you keep a close eye on your available contribution room.

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Mark is a writer who specializes in writing content for companies in the financial services industry. He has written articles about personal finance, mortgages, and real estate and is passionate about educating people on how to make smart financial decisions. Mark graduated from the Northern Alberta Institute of Technology with a degree in finance and has more than ten years' experience as an accountant. Outside of writing, he enjoys playing poker, going to the gym, composing music, and learning about digital marketing.

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