While money contributed to an RRSP is taxable when withdrawn, contributions to a TFSA are made with after-tax dollars and are not subject to any further taxation. As a result, every dollar in a TFSA will be earning tax-free interest.
“A TFSA is a great product offering tremendous flexibility to investors,” explains Gordon Gibson, Vice President, Market Intelligence, Strategy and Communication for the Wealth Management division of National Bank. “While a TFSA doesn’t offer you a tax deduction for contributions, like an RRSP, it allows you to compound your investment in the plan, sheltered from tax.”
TFSAs can be beneficial to investors of all ages, starting at age 18. For some, it can be the ideal vehicle for saving for a down payment on a home, using the TFSA’s tax-free compounding interest to build up your savings.
TFSAs can also be used by young people entering the workforce who wish to shelter their money for later contributions to an RRSP, when they move to a higher marginal tax rate and can benefit more from an RRSP tax deduction.
For Canadians, one important factor to consider when managing investments is that higher taxable income derived from investments such as RRSPs and RRIFs can affect your entitlement to certain retirement benefits later in life. When your taxable income exceeds a certain amount, the government will essentially claw back means-tested government benefits. However, in the case of a TFSA, all money invested is non-taxable and therefore has no eligibility implications.
“It’s extraordinarily flexible and it allows you to put money in, take it out, and then put it back in again,” adds Gibson. “For example, if you have $50,000 in a TFSA and want to buy a car, you can use that money and then return the same amount in the next calendar year without any tax implications.”
Additionally, while you have to stop contributing to RRSPs at age 71, a TFSA allows you to contribute for your entire life. As a result, someone who contributes to a TFSA from age 18 until their death will see their money compound, earning tax-free interest for all of those years.
The maximum annual contribution to a TFSA may vary from year to year. You will find the allowable TFSA contribution room of the past years and prospects for next year via Canada Revenue Agency's web site.
Any unused contribution room, starting in 2009, can be carried forward indefinitely.
Finally, as is the case with any type of investment vehicle, including RRSPs and RRIFs, investors can choose the type of TFSA that best meets their needs in terms of their preferred risk-return ratio.
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