TFSA “amnesty” announced for 2009
Now let’s review the rules to avoid future penalties
David Christianson, BA, CFP, R.F.P., TEP
I hope you had a great Canada Day, and celebrated everything our great country has to offer!
Are you one of many Canadians who are confused by the rules about the Tax Free Savings Account? It turns out an estimated 70,000 people who opened TFSA accounts since they became available in 2009 have accidentally over contributed or otherwise run afoul of the rules.
Good news for these people is that the ministers of National Revenue and Finance announced last week that the government has made a decision to be “as flexible as possible in cases where a genuine misunderstanding of the TFSA contribution rules occurred” in the 2009 tax year.
Otherwise, these inadvertent offenders would be hit with the severe penalties that were introduced after the first wave of account openings revealed intentional abuse of the rules by a handful of taxpayers.
The deadline to file an objection to a TFSA penalty has been extended to August 3, 2010. If you made a mistake with your account – like the most common error of withdrawing and then re-depositing in the same year – write a letter to CRA explaining how the mistake occurred, clearly showing your SIN (and explaining your sin).
Perhaps the government recognized that the complex rules, especially the one that allows you to re-contribute money you have withdrawn, but not in the same calendar year, was not intuitively logical or comprehensible by the general public.
Financial institutions which allowed such re-deposits - without warning the taxpayer of the rule breach - share some of the responsibility, in my view. However, the truth is that many front-line employees had the same trouble understanding all of the TFSA rules, on top of everything else they need to be learning in a given year.
Perhaps more confusing is the way the government reports an over-contribution penalty. CRA multiplies the amount of the over-contribution by the number of months in which the extra money was in the account. Therefore, a $3,000 withdrawal which is “illegally” re-deposited in July will mean a $3,000 over-contribution for six months. The CRA statement will assess a penalty on $18,000, and which is pretty confusing to the taxpayer in question.
Apparently, many taxpayers who wanted to transfer their TFSA money from one institution to another simply withdrew it from one and then opened up a new account at the second institution. That constitutes an over-contribution of that amount for the remainder of the year, with a penalty of 1% assessed monthly.
Remember that you can only contribute $5,000 per year. While you can withdraw the money tax-free at any time, you can only re-deposit that withdrawal after January 1 of the following year.
To review the basic rules, there is no tax deduction or other benefit for making a deposit into a TFSA. The advantage is that any investment income earned on that money is not taxable, and all future withdrawals are tax-free.
For investment options, you can invest in guaranteed investments to earn interest income, or invest in stocks or equity mutual funds and earn dividends and capital gains. No matter what the form of income, there is no tax when earned or withdrawn.
You definitely want to be using a TFSA account if you have non-registered investments that you intend to hold long term. Even if you intend to use these investments within the next year or two, a TFSA can be a good way to shelter the investment income for that time.
If you have not yet opened an account, don’t despair – all of your contribution room carries forward indefinitely.
Having TFSAs and other non-registered investments, on top of RRSPs and taxable sources of income, will make your retirement much less stressful, as you will have money that you can use for lump-sum needs – vacations, cars, home repairs & renovations, gifts – without the huge tax bill that you would incur with an RRSP or extra RRIF withdrawal. It’s all about balance...
Now enjoy your hot summer weekend, with a balance of shade and sun!
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David Christianson is a fee-for-service financial planner and portfolio manager, whose team at Wellington West Total Wealth Management Inc. provides comprehensive financial advice and management. You can e-mail him at dchristianson@wellwest.caor visit his website at www.davidchristianson.com.