Many Canadians probably first learned about Tax Free Savings Accounts (TFSAs) at their local bank branches and have used their TFSAs as savings or emergency fund accounts. Investors may not be aware that other types of investments including individual Equity and Fixed Income securities may be also held inside their TFSAs.
Contribution Limits Growing
The initial TFSA contribution limit in 2009 was $5000.00/year. Fast forward to 2017 and the cumulative contribution room is now $52,000.00 for each Canadian that was over the age of 18 as of 2009 ($104,000.00 per couple). This is no longer a modest amount and advisors and investors might consider using TFSAs to take advantage of the tax-free growth opportunity. Over the long term the wealth creation could be substantial.
The Difference Between a TFSA and a RRSP/RRIF
We strive to invest in the most tax efficient manner possible. We believe in maintaining the determined overall asset allocation for the consolidated portfolio but each type of account (RRSP/RRIF, TFSA, Taxable) within the portfolio may have a different asset allocation in order to maximize long term tax efficiency.
In a TFSA, any interest income, dividends, or capital gains received or generated in the account are not taxable (with the exception of the potential withholding tax on dividends from foreign corporations).
In a RRSP/RRIF, there is a tax deferral until the funds are withdrawn and then the amount is taxed at the full marginal tax rate. The RRSP tax credit is attractive on the contributions but the level of tax payable on the eventual income withdrawn may be less tax efficient than would be the case in a taxable account and certainly higher than in a TFSA where the gains would not be taxed at all.
Based on these considerations, it would appear attractive to place a higher weighting of the Equity (stock) securities in the TFSA and taxable accounts and a higher weighting of the Fixed Income (Bond, GIC) securities in the RRSP/RRIF. This makes tax sense on another level as the Fixed Income securities will generate interest income which is taxed at a higher rate in a taxable account and the Equity securities may generate capital gains which are taxed at a lower rate in a taxable account.
In instances where a taxpayer does not have a spouse as beneficiary, registered accounts such as RRSPs/RRIFs/LIFs will potentially be taxed quite aggressively upon death. This is another reason to consider looking at the opportunity to grow the TFSA over the longer term and ideally leaving the TFSA as an Estate asset. If possible, draw income from the RRIF and leave the TFSA to grow.
We will explore additional strategies on TFSAs and the growth opportunity in future articles.
This article does include commentary concerning the taxation of investments. Readers should consult with their tax professional.
This publication is solely the work of Jon Batchelor for the private information of his clients. Although the author is a Manulife Securities Advisor, he is not a financial analyst at Manulife Securities Incorporated and Manulife Securities Insurance Inc. This is not an official publication of Manulife Securities. The views, opinions and recommendations are those of the author alone and they may not necessarily be those of Manulife Securities. This publication is not an offer to sell or a solicitation of an offer to buy any securities. This publication is not meant to provide legal, accounting or account advice. As each situation is different, you should seek advice based on your specific circumstances. Please call to arrange for an appointment. The information contained herein was obtained from sources believed to be reliable; however, no representation or warranty, express or implied, is made by the writer, Manulife Securities or any other person as to its accuracy, completeness or correctness.