Q – The 2015 federal budget raised the annual TFSA contribution limit to $10,000. I’ve already contributed $5,500 this year, so does that mean I can contribute another $4,500 this year? And how does this affect future contribution room? – Meli M., Markham, Ontario
A – The revised contribution limit for Tax-Free Savings Accounts (TFSA) really is a game changer. With the annual contribution limit raised to $10,000 from the previous $5,500, the TFSA is now a truly serious contender for the title of Canada’s best individual tax sheltered investment account, which had been long held by the venerable Registered Retirement Savings Plan (RRSP).
And yes, you can contribute a maximum $10,000 to your TFSA in 2015. Right off the bat, the government said in its budget papers that the higher contribution limit is effective “for 2015 and subsequent tax years,” even though the budget is still considered a “proposal” until it has been passed into law. The Canada Revenue Agency has confirmed that in keeping with precedent on proposed income tax changes, it will treat the proposals as if they were already law. In this case, the probability is near 100% that the TFSA changes, at least, will become law before October’s national election.
TFSA rules recap
Let’s recap the TFSA rules, and see why the raised limits are so significant. A TFSA is a special government-registered account that lets any investments held within it accumulate tax-free. In addition, withdrawals from the account are also completely tax-free.
Basically, you can now contribute up to a maximum $10,000 to a TFSA annually starting this year and in future years. The contribution limit is not income-tested, the way it is for an RRSP, so anyone can contribute the maximum every year regardless of their income level.
Unused “contribution room” can be carried forward and used in future years. So if you had not contributed to a TFSA since it debuted in 2009, you would now have total contribution room of $36,500 up to and including this year. But with the raised annual limit, your total contribution room for 2015 will be $41,000 (that is, a total of $31,000 for years 2009-2014, plus the new $10,000 limit in 2015). If you don’t contribute this year, your contribution room will increase by another $10,000 annually from here on.
It’s becoming pretty clear that you’ll want to start making the maximum possible contribution you can to your TFSA every year.
Don’t use TFSA as a current account
Withdrawals can be made from a TFSA at any time, but you have to be careful you don’t contribute, withdraw, and recontribute in the same year. If you do start using your TFSA like a straight cash account, you may fall afoul of the penalties for overcontributing in a given year, and these can be pretty stiff. So make sure you check with your advisor if you plan to make withdrawals from your TFSA. As a rule of thumb, treat your TFSA as a tax-sheltered investment vehicle, much like an RRSP, and not as a place to park cash for day-to-day expenditures.
There’s no deduction for contributions to a TFSA, as there is for an RRSP, but that’s offset by the tax-free nature of income generated within the plan, as well as on withdrawals.
Build your net worth, tax-free!
Here’s an example of how a TFSA can build your net worth in a big way.
Let’s say you are 40 years old today and make $80,000 a year. You already have $35,000 in your Tax-Free Savings Account, and you now contribute $10,000 at the start of each and every year until you stop working at age 65.
And let’s assume your combined investments inside the Tax-Free Savings Accounts can earn an average annual rate of return of 8%.
When you reach age 65, you will have accumulated $1,000,000. The distinct advantage of the TFSA is that this money has grown inside the plan completely free of tax – and any withdrawals you make are also completely tax free.
You can invest in interest-bearing investments like bonds and GICs, or aim for growth in the form of investments like common stocks, ETFs, mutual funds and other growth-type assets.
The only other change to the TFSA rules was the cancellation of automatic periodic indexing of contribution limits to the rate of inflation. Any future increases to limits must now be legislated by Parliament.
With the increased annual contribution limit, the Tax-Free Savings Account is now better than ever. Contribute the maximum (or as much as you can) every year. And do it regardless of how old or young you are today. Stop giving your money away! And start creating those tax-free dollars right now. – Robyn
Robyn Thompson, CFP, CIM, FCSI, is the founder of Castlemark Wealth Management, a boutique financial advisory firm specializing in wealth management for high net worth individuals and families. Contact her directly by phone at 647-352-5735, or by email at firstname.lastname@example.org for a confidential planning consultation. Follow Robyn on Twitter and Facebook.
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