The Tax Free Savings Account (TFSA) program was introduced by the Canadian government in the 2008 Federal Budget. It provides an opportunity for any resident of Canada (including foreign students, Workers, Permanent Residents) over the age of 18 to save and invest tax-free.

The TFSA is a registered account like the Registered Retirement Savings Plan (RRSP). Unlike the RRSP, contributions to the TFSA are not deductible for income tax purposes, however, any capital gains, dividends, or interests generated on your TFSA investment are tax sheltered for life!

TFSA 2018 Update:

The government has now published the TFSA limit amount for 2018, and it will remain at $5,500. The earliest we will see an increase to the TFSA limit (i.e. $6,000) is now 2019!

TFSA Rules and Amounts

  • You must be 18 years of age or older, be a resident of Canada and have a valid social insurance number.
  • You can invest in almost anything through your TFSA including cash, Guaranteed Investment Certificates (GICs), bonds, mutual funds, stocks, etc. Dividend income from a foreign country may be subject to foreign withholding tax.
  • You can withdraw money from your account at anytime, for any reason, tax-free.
  • You can re-contribute any amount you withdraw in the following year plus your contribution room for that year. Say you have $21,000 in your TFSA and you withdraw $5,000 this year (2017) to pay for an emergency. In 2018, you will be able to contribute that $5,000 plus your normal contribution room for 2018.
  • Annual TFSA contribution room is indexed to inflation. The annual contribution limit for 2017 is $5,500. Due to persistently low inflation rates over the last few years and the way annual TFSA limits are rounded off to the nearest $500, the contribution limit will likely remain at $5,500 in 2018 as well. You can carry forward unused contribution room indefinitely. The contribution limits over the years have been:
  • Do not contribute over your limit. Excess contributions to your TFSA will be subject to 1% tax on the excess contributions per month until you remove it. If you have been a resident of Canada since 2009, this means you have a total contribution room of $57,500 (updated for 2018). If in doubt about your TFSA limit, you can contact Canada Revenue Agency (via My Account) or use the Tax Information Phone Service.
  • The TFSA does not affect your eligibility for other Federal government benefits or credits that are based on your income earning level. It will not affect your assessment for Old Age Security (OAS), Canada Child Benefits (CCB), Working Income Tax Benefit (WITB), Goods and Services Tax or Harmonized Sales Tax credit (GST/HST).
  • You can give money to a spouse or partner to put in their TFSA account without running foul of Canada Revenue Agency’s attribution rule.
  • You can open more than one TFSA account and can transfer funds from one account to the other. However, the transfer must be a direct transfer between the account issuers. You should not transfer the funds yourself.
  • Capital gains or investment income generated on a TFSA are not taxed. However, you cannot claim a capital loss for any losses incurred in your account.

Related: How To Open A CRA My Account

Investment ideas for your TFSA

The TFSA is a great way to put compound interest to work, grow your investments, while also keeping the tax man away from your profits.

A couple of savings/investment options for your TFSA include:

High interest savings account

Interest earned on savings accounts are pretty low in Canada right now. For example, RBC’s current interest rate on a TFSA savings account is 0.60% per year (August 2017). Talk about peanuts! Better options out there include:

  • Tangerine Tax Free Savings Account: currently offering 1.90% to new accounts for 182 days (or 2.40% if you also open a free chequing account). You can earn an additional $50 bonus when you use my Orange Key Code (43979980S1) during the account sign up process and deposit at least $100 in your savings account. If you go on to refer friends and family using your new orange key, you can net up to $3,250 in bonuses.
  • Alterna Bank Tax Free Savings Account: currently offering 1.90% interest on savings.
  • Motive Financial Tax Free Savings Account: currently offering 1.80% interest on savings.

When investing for the longer term, high-interest savings account may not cut it for you. This is because the overall rate of return is still much lower than what is available when you invest in the stock market. However, for short-term investing, such as when saving for a house down payment or setting up an emergency fund, these savings accounts will come in handy.

Mutual funds

There are several offerings by the big banks and others. You can open a TFSA and buy into mutual funds which are professionally managed. Examples include RBC, CIBC, BMO and many more. If you want to go the DIY investing route and are starting off with small but regular contributions, the TD e-Series Funds are an excellent option.

I use TD E-Series Funds for my TFSA. Compared to the average actively-managed fund, Management Expense Ratios (MER) for e-Series funds are lower and there are no set-up or commission fees. Currently, my portfolio is 80% equities (comprising TD CDN Index-e, TD US Index-e, TD International Index-e) and 20% bonds (TD CDN Bond Index-e). I re-balance my portfolio on an annual basis.

Exchange-Traded Funds

Exchange-traded funds (ETFs) are similar to mutual funds, except that ETFs are traded on exchanges like stocks and offer much lower management fees. Also, ETFs offer a wide selection to choose from, and you may need to pay commission fees when you buy or sell. For those who want to take DIY investing to the next level and who have more funds to invest, ETFs are a great investing tool.

Depending on your investing strategy, there are several model portfolio options available via the Couch Potato Investing strategy. One model portfolio I like for long-term ETF investing is the assertive strategy:

  • BMO Aggregate Bond Index ETF (ZAG) – 25%
  • Vanguard FTSE Canada All Cap Index ETF (VCN) – 25%
  • iShares Core MSCI All Country World ex Canada Index ETF (XAW) – 50%

Related:

Readers, what are your TFSA plans? If you have any questions, please feel free to drop them in the comments section below.