Tax Planning with the TFSA
In this part 3 of our TFSA series, we will look at legitimate tax planning strategies that allow you to make the most of your TFSA. (Click here for part 1 of our TFSA series where we discussed penalties for over-contributing to your TFSA and making contributions while a non-resident of Canada and here for part 2, where we discussed penalties for holding investments inside your TFSA that were either unqualified, prohibited, or resulted in an unfair tax advantage)
Saving for the future, a special purchase or for a rainy day has become easier with a flexible savings tool called the tax free savings account (TFSA). The tax-free savings account allows Canadians to withdraw proceeds of a TFSA (principal and interest and investment earnings) on a tax-free basis. It’s important to note that a tax-free savings account is not just a simple savings account; it allows an investor to hold a wide range of investment products, including mutual funds, stocks, bonds, and GICs.
Another benefit of the TFSA is its flexibility; it allows investors to withdraw money at any time without penalty. Additionally, any withdrawals made can be re-contributed in a later year. Currently, the TFSA limit for 2020 is $6000. Each year you can contribute up to the dollar limit for the year, while the unused contribution room can be carried forward.
While these TFSA advantages are more commonly known, there are other less well-known tax planning advantages that one gains with a TFSA. Let’s look at these next.
TFSAs and Lower Income Earners
Many government benefits, credits, and programs, such as the Child Tax Benefit, the Child Disability Benefit, Guaranteed Income Supplement (GIS), and Old Age Security (OAS) benefits are based on your net income. As a result, earning taxable income inside investment vehicles (such as an RRSP) may reduce the number of benefits that you may qualify for or disqualify you from being eligible for these benefits and programs altogether. Not so with the TFSA. Since earnings inside a TFSA are not considered to be “income,” the value of your TFSA will not reduce your benefits or disqualify you from receiving them.
While RESPs are a great tool for many parents who wish to save for their child’s post-secondary education, you should not discount the benefits of saving for your child’s education with a TFSA. Unlike the RESP, which helps parents save only for post-secondary education, TFSAs can be used to save for private, primary or secondary school. Furthermore, the educational assistant payments that a student receives from an RESP to help pay for his education may be taxable if he is holding down a part-time job or working in the summer. By contrast, a parent can choose to finance his/her child’s education by withdrawing money from a TFSA, which is fully tax free.
Normally, income-splitting rules block any advantage that may be gained when a higher-earning spouse splits his income with a lower-income spouse, by attributing the income or gains back to the original spouse. These strict attribution rules have found an exception when it comes to the TFSA. A higher-earning spouse can choose to contribute money up to the contribution limit from his TFSA to a lower-income spouse. The lower-income spouse can then make a contribution to his/her own TFSA up to the contribution limit. The net effect is that the income inside the TFSA held by the lower-income spouse is not attributable to the original spouse, allowing for his contribution room to be carried forward to another year.
How can the TFSA be used to ensure that its proceeds are passed to the beneficiary on a tax-free basis?
When the holder of a TFSA dies, the fair market value of his TFSA goes to the estate. If a spouse or partner was designated as a “successor holder,” then the value of the TFSA continues to be tax-exempt. However, any income accrued after the holder’s death will be taxable.
If a successor holder has not been designated, then the surviving spouse or partner will receive the proceeds of the TFSA as a “survivor payment.” The surviving spouse or partner can then transfer the lesser value of either the survivor payment or the value of the TFSA’s assets into his/her TFSA, without affecting his/her contribution room.
For many reasons, the TFSA is an indispensable tool to save for your future, particularly if you believe that you will be in a lower tax rate when you withdraw the money compared to when you put the money into it.
To get the most out of your TFSA or to discuss the benefits of other tax-saving tools, contact a lawyer at Kalfa Law.
You work hard for your money. We work hard for you to keep it™.
-Shira Kalfa, BA, JD, Partner and Founder
Shira Kalfa is the founding partner of Kalfa Law. Shira’s practice is focused in corporate-commercial and tax law including corporate reorganizations, corporate restructuring, mergers and acquisitions, commercial financing, secured lending and transactional law. Shira graduated from York University achieving the highest academic accolade of Summa Cum Laude in 2012. She graduated from Western Law in 2015, with a specialization in business law. Shira is licensed to practice by the Law Society of Ontario. She is also a member of the Ontario Bar Association, the Canadian Tax Foundation, Women’s Law Association of Ontario, and the Toronto Jewish Law Society.
© Kalfa Law 2019
The above provides information of a general nature only. This does not constitute legal advice. All transactions or circumstances vary, and specified legal advice is required to meet your particular needs. If you have a legal question you should consult with a lawyer.