Island Savings

Consider a Tax Free Savings Account

Like many Canadians, you may be missing a major opportunity to build serious wealth through a tax-free savings account (TFSA).

A lack of understanding seems to be the primary cause of under use, but the truth is TFSAs are not overly complex and every Canadian owes it to themselves to check out what a TFSA could do for them. While they are commonly viewed as an emergency savings account, it makes equal sense to use a TFSA as a long-term wealth-building vehicle.

Don’t let the name fool you, the most common misconception is that a TFSA is only good for parking cash, but that’s not so. A variety of investments may be held in a TFSA, including mutual funds, index-linked term deposits and even bonds and stocks. Since there is so much flexibility regarding the type of investments that can be held in a TFSA, it provides a tremendous opportunity to create wealth for retirement.

TFSAs are also an excellent complement to RRSPs because investments can be accessed tax free in retirement. While taking advantage of both RRSPs and TFSAs is important for a healthy financial portfolio, how much to invest in a TFSA versus an RRSP comes down to a number of factors, including what your projected retirement income will be.

If your marginal tax bracket is higher now than it will be in retirement, then it may be more beneficial to concentrate the bulk of your investing in RRSPs. If it’s going to be the same or less now than it will be in retirement, TFSAs may be the better option. Particularly, for those in a very low marginal tax bracket, there aren’t a lot of tax savings from contributing to an RRSP and they would be better off building up a TFSA.

In addition to access to tax-free income that can be withdrawn at any time and its ability to hold a variety of different investment types, a TFSA also boasts some other benefits. There is no age caps for seniors, unlike an RRSP, which has an age limit of 71, and contribution limits can be replenished when withdrawals are made from a TFSA.

But there are a few restrictions to be aware of when considering a TFSA, such as who can contribute to the account and penalties for contributions beyond the annual limit or lifetime cap.

The basic rule is that any money withdrawn from a TFSA in a year can’t be re-contributed until the following calendar year in order to avoid a nasty penalty bill from the Canada Revenue Agency for exceeding the yearly limit.

While the benefits of a TFSA typically overshadow the drawbacks, a financial professional should be consulted to determine how this or any other registered product will fit with your current asset mix and life circumstances.

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