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The Tax-Free Savings Account (TFSA) – A Creative Financial Approach
February 28, 2008 By: The Financial Blogger Category: Personal Finance
The Canadian Government deposited their 2008
budget this February 26th. So at the same time
that the Montreal Canadiens were showing their
inability to be creative enough to bring Marian
Hossa (!) in our team, the Canadian Government
were including a nice innovation called the
Tax-Free Savings Account (TFSA) in their 2008
budget. This measure will take effect as of
January 1st 2009.
What is the TFSA?
The TFSA is an account where you can put money (up to $5,000 per year per person) and all gains (interest income,
dividend and capital gains) are non taxable. Even better, you can withdraw the money from your account at any time
under no restriction and without being taxed on the amount of the withdrawal.
You can save up to $5,000 per year and unused TFSA contributions room can be carried forward to future years. You can
also contribute to your spouse and benefit from income splitting strategies.
As previously mentioned, you can withdraw money at any time from your TFSA and this does not affect your contribution
room. You always have the possibility to put back the money into the Tax-Free Savings Account at any time without any
penalties.
Comparison between an RRSP and a TFSA
At first, the RRSP and the TFSA could look alike. However, when you take a moment to analyse both of them, you will
find several differences. I completed the following chart to help you out determining which account is best for your
personal finance.
RRSP
Minimum
contributing
age
to
start
Maximum amount of contribution
TFSA
No minimum. The individual must
declare income.
Minimum age of 18.
$19,000 or 18% of declared
income. The maximum amount is
increasing year after year.
$5,000 per year.
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Contribution is tax deductible
Yes.
No.
Investment
gains
(interest,
dividend and capital gains) are
not taxable
Yes.
Yes.
Spousal
permitted
Yes.
Yes.
Withdrawals from the account are
taxable.
Yes. They are not taxable in a
case of a Home Buyer Plan and to
go back to school (those 2
programs work under certain
restrictions).
No. Withdrawals from the TFSA
are not taxable.
Unused contribution room can be
carried forward.
Yes.
Yes.
You
can
“reimburse”
withdrawal in the account.
No. You can only reimburse
under the HBP and return to
school program under certain
restrictions.
Yes. You can reimburse your
withdrawals from the TFSA at
any time without penalties.
contribution
are
your
According to Million Dollar Journey the account would not serve the Smith Manoeuvre Strategy since the interest
paid on the borrowed amount would not be tax deductible. He took his information from The Financial Post. I will go
deeper into this as it would simply be amazing to combine the Tax-Free Savings Account to a Smith Manoeuvre
Strategy.
If you are looking for more information on the TFSA or the 2008 Canadian Budget, I suggest you read those articles:
Million Dollar Journey
Canadian Capitalist
The Globe and Mail
Fours Pillars
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7 Responses to “ The Tax-Free Savings Account (TFSA) – A Creative Financial Approach ”
1. # 1 MillionDollarJourney Says:
February 28th, 2008 at 8:27 am
Hey FB, thanks for the mention. It’s too bad that borrowed interest wont’ be tax deductible with this account, however, it’s still a great account
regardless. So many possibilities!
2. # 2 Tax Free Savings Account in Canada Says:
February 28th, 2008 at 8:36 am
[…] Capitalist Million Dollar Journey Canadian Dream Financial Jungle The Financial Blogger Canadian Mortgage […]
3. # 3 Canadian Capitalist Says:
February 28th, 2008 at 8:41 am
Thanks for the link FB. FT is right. The budget specifically mentions that borrowing to invest in the TFSA is not tax deductible.
4. # 4 Customers Revenge Says:
February 28th, 2008 at 10:44 am
Is the smith manouvre really that profitable? Doesn’t it just convert your mortgage into an investment loan so you can tax-deduct the interest?
Typically you can get a mortgage rate that is cheaper than the prevailing HELOC rates, so much of what you gain in a tax savings is lost to the
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higher rate. The timing of when you lock into your mortgage might make a difference.
I did the calculations on converting my own mortgage in the past, and the amount of the return was very small. In general though, borrowing to
buy investments is way better than borrowing to buy consumption.
5. # 5 The Financial Blogger Says:
February 28th, 2008 at 8:20 pm
FT and CC;
That’s too bad for the SM! I guess I’ll have to wait and pray to have the tax exemption on the capital gain next year!!
CR;
I am a firm believer of leveraging based on the power of compounding interest. Many financial institution (including the National Bank starting
this April) allow you to combine a fixed mortgage with a HELOC. On the other side, it has been mathematically proven that if you take the
variable mortgage rate over 25 years, you will end up paying less interest than renewing a fixed rate every 5 years.
6. # 6 Quentin DSouza Says:
February 29th, 2008 at 9:49 pm
I was thinking about this again. Please correct me if I’m wrong, but I think it might actually be useful for the Smith Manouvre Investments. Not on
the front end but on the back end.
It is difficult to say exactly until the TFSA comes into play but here is an idea, if transfers in kind are allowed. If we are able to do a “transfer in
kind” of non-registered funds into a TFSA closer to retirement in order to avoid taxation and wash non-registered funds like those of the Smith
Manouvre before we actually need it. Just say your a couple and want to retire in 10 years, so you together have 100,000 of TFSA room, you
transfer in kind from the non-registered funds of the SM - then withdraw funds from the TFSA to avoid taxation and create room again to do it
again the next year? That would mean that a couple who needed $100,000 before tax could now only need to save $70,0000 - since there would be
no tax on the money from the TFSA.
I also mentioned this over at Canadian Dream- http://blog.canadian-dream-free-at-45.com/?p=364#comment-3800 but haven’t got a response yet.
I’d appreciate some FPs opinions on this.
7. # 7 The Financial Blogger Says:
March 1st, 2008 at 5:50 pm
Quentin;
I guess it would work but you would lose your tax deductibility advantage at that point. I think it could be a could way to end-up the Smith
Manoeuvre when you are about to retire.
I would suggest we wait until next year and speak to an accountant
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