Five Important Tax Free Savings Account Tips – TFSA

Doing the little things right over the course of your life can make a big difference to your family’s financial well-being. The benefits of Tax Free Savings Accounts (“TFSAs”) can really add up over time.  These accounts wield the potential to significantly augment your savings, acting as a cornerstone for future financial security. Please read below for our Top 5 TFSA Tips for 2023.

Tip #1: TFSAs provide great tax and non-tax benefits to people of all income levels.

While contributions are made to a TFSA with after-tax dollars, these plans are attractive in that the investment growth (interest, dividends and capital gains) accumulates tax-free. Better yet, all this accumulated principal and growth can be paid out tax-free. This rule applies when one makes withdrawals for personal spending or for gifting, and when TFSAs are left to your heirs as part of your estate plan. The other good news is that simply holding a TFSA or withdrawing from one during your lifetime does not negatively impact income-tested benefits and credits, like the Guaranteed Income Supplement, Old Age Security payments (claw back) or the age credit.

Tip #2: Naming a spouse as the successor holder makes for smart tax and estate planning.

You can designate a spouse as the successor holder for your TFSA in your Will, but an even easier way is to make the successor holder designation right in the plan documentation with help from your Portfolio Manager. By naming your spouse as the successor holder, the TFSA becomes their own upon your death; the assets and investments within the TFSA transfer directly to your spouse’s TFSA without affecting their contribution room. This transfer occurs tax-free, preserving the tax-sheltered status of the investments and allowing them to continue growing tax-free. Since the assets bypass the probate process, it simplifies the transfer of the TFSA funds directly to your spouse without delays or legal complexities. Your spouse gains immediate control over the TFSA and has the flexibility to manage the investments and make contributions or withdrawals according to their financial needs.

Tip #3: Even if you name a spouse successor holder, you should still name a beneficiary in case the successor holder dies before you.

You may also name someone else as a beneficiary (e.g. child, grandchild or sibling) for your TFSA. In this case, the TFSA at your death would be de-registered and those TFSA assets would transfer tax-free to the named beneficiary. Although beneficiaries do not inherit your contribution room, as a spouse can, these beneficiaries can establish their own TFSA from the inherited assets and use their own unused accumulated contribution room. Having a named beneficiary streamlines the estate settlement process, allowing for a quicker transfer of assets outside of the probate process and reducing administrative burdens for your heirs.

Tip #4: Review with your financial professional the asset composition of all your investment accounts and allocate assets to the TFSA based on your personal situation.

A common practice has been to hold interest-bearing investments inside TFSAs to shelter highly taxed interest income. While this makes logical sense, holding capital gain growth assets in your TFSA may be a good alternative if these assets are planned to be kept and can serve to minimize tax on high growth assets down the road or at the time of death. Also, while Canadian dividends and interest are specifically tax-free in a TFSA, non-Canadian dividends, such as those paid by U.S. stocks, or foreign interest are subject to withholding taxes in a TFSA and there is no way to get these taxes back. RRSPs do not have withholding taxes applied so are better vehicles to hold foreign securities, as are non-registered accounts where you can at least claim foreign tax credits on your income tax return.

Tip #5: Contribute the newest amount early in the year to maximize the tax benefits of the TFSA.

The good news is that the annual TFSA limit has gone up to $7,000¹ as of January 1, 2024. If you are age 18 and over and a Canadian Resident, you can contribute to a TFSA. The total contribution room available in 2024 for someone who has never contributed and has been eligible for the TFSA since its introduction in 2009 is $95,000. Contributing earlier in the year allows your investments to grow tax-free for a longer duration within the account, as well as, taking advantage of compound interest.