The Millennial’s Ultimate TFSA Guide

A few months ago, I wrote about the Millennial’s Ultimate RRSP Guide where I outlined how millennials should use their RRSP. While RRSP is a very powerful tool for retirement savings, I believe most millennials will actually benefit more from the Tax Free Savings Account (TFSA). Even though TFSA is a very simple savings account, there seems to be a lot of confusions over TFSA. Statistics show that many Canadians aren’t utilizing TFSA to its full potential. Therefore, I have decided to put together this millennial’s ultimate TFSA guide. My intention for this millennial’s ultimate TFSA guide is to help Canadians, especially young Canadians, understand the TFSA better.

What is the TFSA

The Tax Free Savings Account was introduced in 2008 by the late Jim Flaherty and came into effect on January 1, 2009. It is a tax-advantage account available to individual who are 18 or older with a valid social insurance number to set money aside to grow tax-free throughout their lifetime. You make contribution to the TFSA with after-tax dollars. Unlike the RRSP, there is no income tax deduction with the TFSA. However, there are no complicated withdrawal rules and strategies involved with the TFSA. Contributions as well as any growth generated in the account are tax-free when you withdraw from the TFSA.

TFSA Contribution Guideline

  • Each year there is a set TFSA contribution limit. This limit is indexed to the rate of inflation.
  • You don’t need to earn an income to be eligible for TFSA. If you are 18 and a Canadian citizen or a permanent resident, you can contribute to the TFSA.
  • Your contribution allowance can be carried forward to later years. So if you didn’t save enough money this year, you can contribute in future years.
  • You can have as many TFSA accounts with different financial institutions as you want but the yearly contribution limit is cumulative. A word of caution, if you have TFSA accounts with multiple financial institutions, make sure to track your contributions closely. This is one of the ways to easily over contribute to your TFSA.
  • Contributions to the TFSA are made with after-tax money. Therefore, there’s no income tax deduction.
  • You can transfer TFSA from a financial institution to another but make sure you do a registered transfer and not a withdraw-then-transfer. Make sure to watch out for transfer fees.
  • You can check your available TFSA contribution allowance on CRA’s My Account.

TFSA Contribution Limits

Here are the yearly contribution limits since 2009. If you were 18 in 2009, you have an accumulated contribution allowance of $52,000.

YearsTFSA Annual LimitCumulative Total
2009$5,000$5,000
2010$5,000$10,000
2011$5,000$15,000
2012$5,000$20,000
2013$5,500$25,500
2014$5,500$31,000
2015$10,000$41,000
2016$5,500$46,500
2017$5,500$52,000

What Can I Invest in my TFSA?

For the average person, most investments can be held in the TFSA including:

  • Cash
  • GIC’s
  • Stocks
  • ETFs
  • Bonds
  • Mutual Funds
  • Option contracts
  • Investment grade gold & silver bullion
  • Shares of small business corporations

Since the idea is to have your contribution growing tax-free, it is not advised to “invest” in cash or buy GIC’s. Simply put, in the current low interest rate environment, you will end up losing purchasing power if you hold contributions in cash or in GIC’s. Don’t be one of the 65% Canadians that only hold cash in their TFSA! Rather than seeing the TFSA as a short-term savings account, I like to treat the TFSA as another savings vehicle for retirement. That’s why I invest in stocks and ETFs in our TFSA.

TFSA Withdraw Rules & Limitations

  • You can withdraw from your TFSA anytime.
  • Money withdrawn from a TFSA is not considered as taxable income. In other words, there’s no income tax implication. This makes the TFSA a powerful retirement savings vehicle.
  • When you make a withdrawal, the amount you withdrew is added to your contribution room at the beginning of the next calendar year. So if you withdrew $5,000 in 2016, you can contribute an additional $5,000 in January 1st, 2017. Make sure you don’t contribute the $5,000 in 2016 as this will count as a new contribution and may put you over your allowed contribution limit.

When Should You Not Contribute to a TFSA?

In my opinion, it is always a good idea to contribute to a TFSA. For millennials, generally they will see a bigger tax-advantage by contributing to the TFSA rather than the RRSP. Obviously this may change depending on how much income you are earning. The rule of thumb is, if you are in the lower income tax bracket, it is better to contribute to the TFSA rather than the RRSP.

What Happens If I Over Contributed to my TFSA?

I have never in a million year thought that we would over contribute to the TFSA. But it did happen to Mrs. T as we made a honest calculation mistake. Apparently in 2012 tax year CRA sent notices to about 74,000 taxpayers about TFSA over contributions. So people do accidentally over contribute to their TFSA. What happens when you over contribute?

  • You will receive an excess amount letter from the CRA stating TFSA over contribution
  • TFSA over contribution penalty is 1% per month on the amount of the over contribution. If the CRA thinks the over contribution was done deliberately, steeper penalties could be imposed.
  • If you receive an excess amount letter, immediately remove the excess amount and write a cheque to CRA with the penalty amount. You can also ask CRA for forgiveness and to waive the penalty amount.
  • Here’s more info on our TFSA over contribution and what we did to ask for forgiveness.

How You Should Use the TFSA

Unfortunately, many people simply view and use the TFSA as an account for short term saving and an emergency fund. I strongly disagree with this simplistic view. The biggest advantage for the TFSA is the ability to grow your contribution tax-free. Any TFSA withdrawals are tax-free. So why would you leave your TFSA contribution grow at a lousy 0.5% when you can invest it in equity and let it grow at the historical stock return rate of 7%? Let’s put this in a quantitative way… Assuming you have $52,000 sitting in your TFSA and make no further contributions in the future.

  • At 0.5% growth rate, in 30 years you will end up with a jaw-dropping $60,392.80.
  • If you invest your $52,000 in stocks, at the historical return of 7%, you will end up with $395,837.26 after 30 years! A $343,837.26 tax free income! Talk about the power of compound interest!

Now which one wold you rather have? A cool $60k in your TFSA after 30 years, or a ridiculous-uber-cool-Bob’s-your-uncle $343k? I don’t know about you, I’ll take the $343k any day. Having said all that, depending on your situation, investing 100% of your TFSA contribution may not be the best approach. Here are a few questions you need to ask yourself:

  • Do you need the funds in the short term? If you foresee the need to withdraw from the TFSA, perhaps investing in GIC’s or money-market funds makes sense.
  • What is your risk tolerance level? Depending on your risk tolerance level, 100% in equities might not be the right choice. Perhaps a 50-50 mix of stocks and bonds? Or perhaps 70% in stocks and 30% in GIC’s?
  • Do you have extra contribution room? If you have extra contribution room, consider moving your emergency fund (here’s why we don’t have one) or other big savings so they can grow interest free.
  • Should you transfer your TFSA to a RRSP? Depending on your income situation, it may be beneficial to transfer money from a TFSA to a RRSP. This will give you immediate income tax deductions. Remember that any TFSA withdrawal amount is added to your contribution allowance in the new year. This may be an effective way to maximize tax deduction. Please consult a tax specialist if you are considering this approach.

My TFSA Story and Plans

  • Since 2009 I have maximized my TFSA contribution every year.
  • Originally I left my TFSA contribution with ING Direct (now Tangerine) in GIC’s, earning a low interest rate.
  • When I learned more about stock investing and dividend growth investing, I transferred my TFSA from ING Direct to TD Waterhouse and started investing in stocks.
  • When Mrs. T became a Canadian permanent resident in 2011, we right away started contributing to her TFSA.
  • We have already maximized our TFSA contribution allowance for 2017. In total we have contributed $52,000 to my TFSA and $42,000 for Mrs. T.
  • We consider our TFSAs as our retirement savings vehicles. In other words, there’s no plan to withdraw our TFSA contributions anytime soon. We plan to use dividend income from our TFSA (tax-free booya!) to fund part of our expenses when we are financially independent.

Note: Unlike RRSP, TFSA aren’t exempt from the US 15% dividend withholding tax. So if you invest in US dividend paying stocks inside TFSA, you’ll get hit 15% every time you get dividend income. Best to invest US dividend paying stocks inside your RRSP. What do you think about this millennial’s ultimate TFSA guide? Did I miss anything? Do you have any other tips I should include?

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15 Comments

  • Reply
    wealth from thirty
    April 19, 2017 at 4:49 pm

    I have never read much about the TFSA. I had no idea you could withdraw at any time. I also didn’t realise it wasn’t part of the Canadian retirement system, but it seems to be simply an account that tax free? In Australia, after-tax contributions (and their earnings) to our retirement account are tax free, and pre-tax contributions and their earnings are currently taxed at 15%. Funds have to be held until age 65-67 (depending on when you were born). One of my concerns is that the Government will change the legislation so that they can tax more of the accounts/earnings, lift the age of access or just dip into this trillion dollar (!) pot of assets with some kind of ‘levy’ – They’ve already shifted the rules for retirees with funds > $1.6mln AUD, taxing there earnings in excess of the original agreement. I’m curious if there is any similar sentiment in Canada with the RRSP?

    • Reply
      Tawcan
      April 20, 2017 at 11:26 am

      That’s the flexibility of TFSA, it’s an amazing savings vehicle but I really believe it should be used for retirement savings.

      As far as I know there’s no plan to change how they tax RRSP withdraws. Currently RRSP withdraws are taxed like active income.

  • Reply
    Weekend Reading – Done with work, $50k tax free, spending controls and #money stuff - My Own Advisor
    April 20, 2017 at 6:42 pm

    […] Fellow dividend investor Tawcan provided a detailed TFSA guide. […]

  • Reply
    passivecanadianincome
    April 20, 2017 at 7:34 pm

    nice write up. I think tfsa’s are the way to go as well. Interesting to read about your experience of the over contribution. Did you ask for forgiveness or just cut the cheque? I just hope in the future the governments realize how much taxes they are losing and dont change the structure of the tfsa. Cheers

    • Reply
      Tawcan
      April 21, 2017 at 12:16 pm

      We asked for forgiveness and cut the cheque. When we were forgiven we got the money back + interests.

      Really hope they don’t put a lifetime limit on the TFSA.

  • Reply
    FI3000
    April 21, 2017 at 6:02 am

    Just wanted to mention that unlike RSPs – TFSAs aren’t exempt from the 15% dividend withholding tax that has to be paid on US dividends. So from a tax perspective it might be smart to put your US dividend payers in an RSP.

    • Reply
      Tawcan
      April 21, 2017 at 12:17 pm

      Very good point.

  • Reply
    Mark
    April 21, 2017 at 8:11 am

    Got a question .. suppose we have 30k in tfsa in 2017 ( no withdrewl or depost in 2017) then i withdrew all the money now ..
    can we put back 5500 again later this year.
    Or we can put back all the moeny we withdrew
    If you can clearify.

    • Reply
      Tawcan
      April 21, 2017 at 12:18 pm

      Hi Mark,

      If you have additional TFSA contribution room that’s greater than $5500 then you can add $5500 in later this year. However if you have no more contribution room left, you need to wait till 2018 before you can make any more contributions, by then it would be 30k + 2018 contribution limit. Hope this helps.

  • Reply
    Barbara
    April 21, 2017 at 9:02 pm

    A tip I think you should include is to advise young people to choose carefully where they open their TFSA. It used to be that TD Direct (formerly TD Waterhouse) was a good option because you could buy their e-series index funds at no cost and low minimums.
    I was a bit shocked to find that they now charge a $100 annual fee on TFSA accounts under $15000. Found this out when my daughter was just charged the $25 quarterly fee. I am sorry I recommended TD to my kids.

    • Reply
      Tawcan
      April 24, 2017 at 10:18 am

      Quite a number of banks seem to charge annual fee on self-managed TFSA accounts. This is definitely something to keep in mind. You might be able to get TD to waive this fee if you have been a long time customer.

    • Reply
      Cashinstinct
      May 13, 2017 at 10:28 am

      There are many options to avoid this fee at TD Direct, such as monthly preauthorized deposit of $100 or more.

      It can help achieve savings goals to have money saved monthly, to eventually reach minimum $15,000 balance.

      (I am not affiliated with TD)

      • Reply
        Barbara
        May 13, 2017 at 9:45 pm

        I definitely would not say there are many options to avoid the fee. Plenty of young people earn minimum wage or close to it and don’t have $100 per month for automatic investment. At $100 per year to have a TFSA account, they won’t bother TD should be ashamed and I do tell them this, they will permanently lose customers who could be great ones to have in the future.

        • Reply
          Cashinstinct
          May 14, 2017 at 4:47 am

          Another option is that the minimum $15,000 is for the total household accounts, under same address.

          You can tell TD Direct the relationship link between parent and young adult.

          This way, young adult won’t pay $100 annual fees.

          • Tawcan
            May 15, 2017 at 10:58 am

            That’s a great way to avoid these fees.

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