The tax-free savings account, or TFSA, is frequently called “a registered retirement savings plan (RRSP) for everything else beyond retirement.”
Unlike an RRSP, you can access the money in your TFSA with no tax consequences for any need, and the amounts withdrawn are added to your contribution limit amount in the following year. Any Canadian resident who has reached the age of majority can contribute up to $5,500 annually to a TFSA (the contribution limit changed in January).
But when should you consider this type of savings plan? A TFSA may be useful if:
You are a younger investor. If you are in a low tax bracket and expect to be in a higher bracket in the future, contributing to a TFSA may be best for you.
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RRSPs offer tax savings if your income is in a higher tax bracket when you contribute to the plan and in a lower bracket when you withdraw. By contributing to a TFSA while in a low tax bracket, your investments grow tax free. When your tax rate is higher, you can withdraw funds from your TFSA to contribute to an RRSP and reduce more of your future taxes. Also, you are able to reclaim the amount you withdraw toward your TFSA annual contribution limit in the following year.
You are an established saver. If you have limited contribution room or have maximized your annual RRSP contributions and are looking for ways to save more for retirement, a TFSA can complement your retirement plan.
In addition, you can give your spouse money that he or she can use to contribute to a TFSA without affecting your TFSA contribution room or attracting income attribution.
You are transitioning to retirement. The TFSA can offer you tax-free income during retirement, which may help diversify your income stream. You can hold accounts with differing tax treatments to help smooth out your tax liabilities.
You are retired. Unlike with an RRSP, there is no requirement to close your TFSA at age 71. You can continue to contribute to a TFSA even though you may no longer be eligible to make RRSP contributions.
If you’re looking for a flexible savings vehicle, take another look at the TFSA. You might like what you see.
Deborah Leahy is a financial adviser with Edward Jones Member – Canadian Investor Protection Fund