As the new year rolls in, we Canadian can be thankful for being rewarded with one of the best things that exists for investors – The Tax Free Savings Account (TFSA). The type of account started in 2009 where savers/investors were allowed to contribute up to $5,000 per calendar year (and is now up to $5500 starting 2013). This article lists some of the basics of TFSA and I share a spreadsheet to calculate your TFSA contribution room.
The Tax Free Savings Account is not just a savings account, but should be viewed more as a Tax Free Investing Account. Your funds can grow tax free and can provide with great long term prospects. Most people are familiar with TFSA accounts, but for the benefit for new savers/investors, here’s a recap.
- Each individual aged 18 or over is allowed to contribute a certain amount per calendar year.
- From 2009 to 2012, the amount was $5000 per year. Since 2013, the amount is $5500.
- Contributions are not tax deductible
- Investment income is tax free
- Withdrawals are tax free
- Unused contribution room can be carried forward to following years
- If you make a withdrawal, the withdrawn amount is added back to your contribution room in the following year.
- If you over-contribute, you will be penalized. See CRA website for details.
Tax Efficient Investing
Now to the interesting part of tax efficient investing. The tax free savings account has some subtleties that an investor can leverage to make best use of it. Here are my picks.
- Canadian dividend stocks – Canadian dividend stocks are best held in TFSAs as there are no dividend taxes withheld. In addition, capital gains are not taxed either! So, its a win-win.
- US dividends stocks are best held in RRSP as the dividends taxes are not withheld in RRSP account. If held in TFSA account, investors will pay 15% withholding tax on dividends. However, capital gains are not taxed, so its not all doom and gloom if holding US dividend paying stocks in TFSA accounts.
- Non-dividend paying stocks (Canadian or US) – If you are interested in growth focused companies and dont care about dividends whatsoever, TFSA is still great as capital gains are not taxed. This is irrespective of whether the stock is Canadian or US.
- British and Australian stocks – ADR (American Depository Receipts) stocks of companies that are originally based in UK or Australia are great for TFSA accounts as the dividends (and capital gains) are not taxed.
- If you are using ETFs, this introduced some extra complications as each fund has its own way of handling withholding taxes. For e.g., if the fund holds foreign companies, the foreign withholding taxes may already be applied before paying out the distributions. You may need to look at each fund’s data for these details. A post from Canadian Couch Potato summarizes this detail well.
TFSA Contribution Room
Because the TFSA room changes depending on the previous years’ contributed amounts, withdrawals and new additions to the room, the actual room changes between person to person and year to year. To keep track of your contribution, I have decided to share this spreadsheet. Note that you need to track accurately on all previous contributions and withdrawal amounts. I have entered some example data for guidance – you will have to edit the cells in blue with your own data and the cell in yellow displays the final contribution room available.
Disclaimer: The information provided here is for educational purposes only. All opinions here are my personal opinions and should not be taken as financial advice. I am not qualified to be a financial advisor. Always consult with your financial advisor before investing based on recommendation from this blog.
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