Tax-free savings — the idea sounds almost too good to be true, but it isn’t. As of Jan. 1, all Canadians have access to the new Tax-Free Savings Account (TFSA), but how does it work?
Tom Hamza, president of the Investor Education Fund, a non-profit organization that promotes financial literacy across Canada, says the TFSA is meant to be a versatile partner to your RRSP, which allows you to save and take money out when you need it, tax free.
Other details about the TFSA include:
• Any Canadian over the age of 18 can open a TFSA and deposit up to $5,000 yearly into the account, regardless of your income level. RRSP contribution limits are tied to income.
• Your contribution limit grows by $5,000 yearly regardless of whether you put money into it.
• Money you earn in your TFSA doesn’t count against you if you receive a government income supplement.
“This is a way to save some money and shelter the tax as the money grows,” said Lee Anne Davies, head of advanced retirement strategies at RBC.
However, Davies points out that while money inside a TFSA is not taxed, the money you contribute to a TFSA is still taxable as part of your income. RRSP money, on the other hand, is tax refundable upon contribution and only gets taxed when you retire.
Hamza suggests that rather than trying to choose between a TFSA and an RRSP, use both to their full advantage.
“Anything you can do to keep money in your pocket instead of giving it to the tax person is a good thing,” Hamza said.