Tag: TFSA

TFSA goes back to the future

Rollback, indexing and the next instalment

In case you missed it, last October marked a long-awaited historic event: Marty McFly’s cinematic visit to the future on October 21, 2015 in the second instalment of the 1980s’ Back to the Future trilogy.

We introduced our kids to this movie franchise over the course of three weekends recently, and it was time well spent. Apart from the amusement, there was also a fair bit of confusion as they tried to work through what came first, what changed and what remained the same.

It’s not unlike how many people may have felt about the future of the tax-free savings account (TFSA) following that other significant event last October – the Liberal party victory in the federal election.

In the beginning

The TFSA was introduced by the Conservatives in the 2008 Federal Budget. Beginning in in 2009, it provided each Canadian resident over the age of 18 with $5,000 of annual tax-sheltered investment room. 

To keep up with inflation, an indexing formula was established to enable the annual room to rise by $500 increments every few years. The first such increase occurred in 2013 when the allotment became $5,500.

A bump in the road

In the 2011 election campaign, the Conservatives included a promise to double the annual TFSA contribution limit. The promise was made contingent on the party having a full term in office and reaching a balanced budget. They won a majority, so the only remaining requirement was to balance the books.

With the intervening 2013 increase to $5,500 based on the formula, there was potential for the room to be increased to as much as $11,000. As it turned out, the Conservative government tabled a balanced budget in March 2015 that included an increase in annual TFSA room to $10,000, retroactive to the beginning of 2015.

Part and parcel with the increase, indexing was removed, setting $10,000 as the fixed figure for all years from 2015 on. For interest, if the annual index factor were to have been a consistent 2% in future (see the table for the actual past figures), it would have taken close to 30 years to build up to $10,000 – roughly the same span of time Marty McFly jumped ahead in his time-travelling DeLorean.

Back to the future

It would be a bit overreaching to cast TFSA room as a pivotal issue in the 2015 election campaign, but it likely swayed some voters and certainly was prominently discussed. While the Conservatives had proceeded to enact the increase prior to the election call, the Liberal party stated its intention to rollback the provision.

With the Liberal majority victory this past October, attention turned to what the “rollback” might mean. If it was returned to $5,500 retroactive to the beginning of 2015, that would have forced those who had used the excess room to extract the extra they had deposited. And how would any investment growth (or decline) be treated? On the other hand, would those who had not yet taken advantage of the excess room lose that opportunity?

The answer was a practical one. The indexing formula was simply reinstated for 2016, returning the annual room to $5,500. The 2015 allotment of $10,000 was allowed to stand for the purpose of any carryforward, but it was ignored in applying the index formula. This assured that there was no prejudice to those who had not used the room in 2015 and no administrative headaches for those who had.

And for those lamenting the loss of the $10,000 amount, if that same 2% indexing assumption applies, the bump to $6,000 should happen in 2018.

Annual TFSA room

Saving for a home – Debate between HBP and TFSA heats up

It is an age-old debate in personal finance whether it is more cost-effective to rent or buy a home — then add in the emotional element.  Assuming the ultimate decision is to buy, attention then turns to assembling the downpayment.  

Looking past the bank of mom and dad, traditionally that meant building up a reserve in a non-registered account beginning years ahead of the intended purchase.  As such deposits are after-tax savings subject to annual taxation on earnings, that could make for a slow exercise.  

Since 1992, accumulation in a registered retirement savings plan has been available for this purpose through the Home Buyers’ Plan (the HBP).  And since 2009, the multi-purpose tax-free savings account has provided another avenue.

While RRSP and TFSA both offer tax-free accumulation, the pre-tax RRSP allows greater gross accumulation, which would seem to favour usage of the HBP.  On closer look however, the choice is neutral at best, and in my opinion instead leans toward employing the TFSA.  

The simplicity of TFSAs

The TFSA became available for deposits in 2009.  The initial $5,000 annual contribution limit increased through indexing to $5,500 in 2013, and earlier this year was moved up to $10,000 (though it will no longer be indexed).  Depending on the outcome of the current federal election, TFSA room may be further adjusted, but there is no suggestion that either the program itself or its tax functioning are at risk.

The TFSA is funded out of after-tax money, so less money is available to go into a TFSA compared to an RRSP deposit.  To illustrate, a person at a 35% marginal tax rate who had a dollar to put into an RRSP (assuming available room), would have only 65 cents to go into a TFSA.  This is a double-edged sword for the RRSP though, as all deposits and all growth will eventually be taxable.

On the other hand, TFSA withdrawals are not taxed.  Thus the amount available for a downpayment is simply the value of the TFSA at any given time.  Once a withdrawal is made, there is no service cost or repayment obligation, and the taxpayer is entitled to a dollar-for-dollar credit for re-contribution the year following withdrawal.

HBP accessing RRSPs

At its core (without getting into all the minutia), the HBP allows a first time home buyer to make a withdrawal from an RRSP without facing current taxation.  The original withdrawal limit of $20,000 per person (or as much as $40,000 for a couple) was increased to $25,000 in 2009, and there is now an election proposal to further increase it to $35,000.

The quid pro quo is that the withdrawn amount must be returned to the RRSP over the 15 years following the home purchase (or sooner if the person is able, and wishes to do so).  Those future replenishing payments are not deductible. 

For a renter anxious to enter into home ownership, the HBP opens the door to a larger pot of money to achieve a desired downpayment.  This could be particularly helpful in getting past the threshold below which an insurance premium would be payable for the mortgage to be covered by the Canadian Mortgage and Housing Corporation.  And obviously a larger downpayment means a smaller amount being financed.

This last point is critical, as larger annual interest charges eat into a household budget for years, and often decades.  But what is the trade-off cost of using the HBP for that downpayment?  

Just as mortgage payments are non-deductible, again so too HBP repayments.  Put another way using our 35% taxpayer once more, roughly $1.50 of the person’s pre-tax income would be required to fund each repayment dollar.  To derive a truer cost of financing, an aspiring  homeowner would be advised to budget based on the combined cost of mortgage and HBP.  

Still, whereas mortgage payments are mandatory (in a practical sense), couldn’t a person simply forego one or more HBP repayments if things get tight?  The answer is yes, but then the un-repaid amount is taken into taxable income – And remember, no cash comes available at that time, as it was spent years earlier to buy the home.  The tax payment itself is not deductible, costing our erstwhile 35% homeowner almost 75 cents of pre-tax income to pay the roughly 50 cents of tax.  And unlike TFSA room, spent RRSP room is non-recoverable.

It is also bears mentioning that likely our homeowner will have higher income in future.  While plainly positive on its own, as household costs ascend that could have an impact on the cost of HBP repayment or tax on un-paid instalments.  The net effect is ambiguous at best.

Transparency trumps 

Perhaps the picture offered here is a bit cynical.  Well-informed, well-disciplined purchasers may very well be able to navigate the HBP rules without harm, and possible to their advantage. Indeed, a couple planning a family could strategically manage the program so some future income is recognized by a low-bracket stay-at-home parent.  

Even so, the true cost of the HBP remains opaque and uncertain – an uncomfortable position to be in for the largest financial transaction of a person’s life.  For my money, the nod should go to the greater transparency and certainty of the TFSA, maybe with the HBP playing a minor supporting role.

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SIDEBAR/CALLOUT

According to Statistics Canada, 180,750 taxpayers did not pay their HBP instalment in 2012 (the last year for which data is available), collectively taking $812 million into income that year. 

Federal Budget 2015 — Seniors and savers are winners

Finance Minister Joe Oliver delivered his first Federal Budget on Tuesday, April 21, 2015.  Being that it is an election year, it was not surprising that there were plenty of proposals that would appeal to a variety of voters.  Of course, this is in addition to the announcements in the Fall 2014 Economic Statement (See sidebar).

For this summary, we focus on the key items relevant for financial advisors and their clients.

Tax-free savings account

As expected, the government has followed-through on the 2011 election campaign promise to double annual TFSA contribution room.  As of Budget Day that figure was $5,500, so this could have meant an increase to as much as $11,000, but the chosen figure was an even $10,000. This applies for 2015 and subsequent calendar years, but there will no longer be any inflation indexing.

TFSA contribution room

                                                  2009-2012         2013-2014         2015-on

Annual dollar limit                      $5,000               $5,500             $10,000

Indexing ($500 increments)          Yes                    Yes                    No


Registered retirement income fund relief

Relief on RRIF minimum withdrawals has long-been requested by seniors’ advocates.  As shown in the table, mandatory minimums have now been adjusted downward for ages 71 to 100, by close to a 30% reduction at the younger end.  Those who may have already made the higher withdrawal this year under existing factors will be allowed to re-contribute the excess by no later than February 29, 2016.

There will be no change for ages 70 and under, which will continue to be determined by the formula 1/(90 – age).

RRIF minimum withdrawal factors (percentages)


RDSP legal representation

In 2012, the federal government introduced a temporary measure to allow a qualifying family member (i.e., a beneficiary’s parent, spouse or common-law partner) to become the plan holder of a Registered Disability Savings Plan for an adult who may lack the capacity to enter into a contract.  As some provinces and territories have yet to put necessary rules in place, the measure is being extended from its original horizon date of 2016 out to 2018.

Small business tax rate

In a surprising (at least among those with whom I spoke during the Budget Lockup) but welcome move, the small business tax deduction is being increased by 0.5% each year from 2016 to 2019.  Put another way, the resulting small business rate on the first $500,000 per year of qualifying active business income of a Canadian-controlled private corporation (CCPC) is going down from 11% to 9%.

In turn at the shareholder level, the gross-up and dividend tax credit for non-eligible dividends will both be adjusted.  As provincial tax calculations use the federally-defined gross-up, expect the provinces to address this by adjusting respective provincial dividend tax credits.

Table: Small Business Tax Rate Reduction and DTC Adjustment for Non-Eligible Dividends 

                                            2015        2016        2017        2018        2019

Small business rate              11%      10.5%        10%        9.5%          9%

Gross-up                              18%         17%        17%         16%        15%

DTC                                     11%      10.5%       10%         9.5%         9%


Increased LCGE for qualified farm or fishing property

The lifetime capital gains exemption for qualified farm or fishing property will increase.  For dispositions that occur on or after Budget Day, April 21, 2015, it will be the greater of $1 million and the annually-indexed LCGE applicable to small business corporation shares (currently $813,600 in 2015).

Donations involving private corporation shares or real estate

The Budget proposes to allow an exemption from capital gains tax where proceeds of disposition of  private corporation shares or real estate are donated to charity within 30 days after disposition.  The purchaser must be at arm’s length from both the donor and donee, among a number of stringent qualification criteria.  This measure will apply to donations made in respect of dispositions occurring after 2016.

Tax compliance and administration

Streamlining reporting for foreign assets

In 2013, the Canada Revenue Agency (CRA) introduced a revised Form T1135 for foreign investments with a cost base of at least $100,000.  Acknowledging that this has resulted in a disproportionate compliance burden for some taxpayers, a streamlined procedure and form is being developed for those with foreign investments of less than $250,000 cost base.  The new procedure and form will be made available for taxation years that begin after 2014.

Intra-CRA tax information sharing

The CRA collects debts owing to the federal and provincial governments under a number of non-tax programs. The CRA will be given authority to internally exchange confidential taxpayer information to manage collections efforts.  Amendments will be made to the Income Tax Act, provisions related to GST/HST, and excise duties on tobacco and alcohol.

International information exchange

Beginning in 2018, Canada will begin exchanging tax information with G-20 countries in respect of financial accounts.  Financial institutions will be expected to have procedures in place by July 1, 2017 to identify accounts held by residents of any country other than Canada and to report the required information to the CRA.

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SIDEBAR: Fall 2014 Economic Statement

These measures (mainly of interest to families with minor age children) were introduced before the release of the 2015 Budget, and are either claimable for 2014 tax filing, or payable retroactive to the beginning of 2015.

Family Tax Cut 

  • Tax credit worth up to $2,000 based on a notional transfer of up to $50,000 income between parents where a child under the age of 18 resides in the household

Universal Child Care Benefit (UCCB)

  • Increase of $60 to $160 monthly for children under six
  • New $60 monthly payment for children six through seventeen

Child Tax Credit (CTC)

  • Repealed, as it is effectively replaced by the UCCB additions

Child Care Expense Deduction dollar limits

  • Increased by $1,000 per child

Children’s Fitness Tax Credit (CFTC)

  • Doubled for 2014, from $500 to $1,000.