Should TFSA Accounts Be Topped Up?

It appears unlikely that investors who have already maximized their TFSA contribution room to $10,000 in 2015 will be asked to remove the extra $4500, should the new government make good on their pledge to repeal the $10,000 maximum contribution in favor of a $5500 annual amount.

That’s why, it’s important to top up the TFSA contribution room as quickly as possible – simply because it makes sense from a wealth building point of view, but also you could lose it if you don’t use it.

So what can the new Liberal government do as they roll back the $10,000, an enhancement to the contribution room that the last government passed into law last June?

They could put a limit on total TFSA contribution room available in 2016 to $42,000 rather than the scheduled $51,000. This would have the effect of enabling a maximum combined $11,000 contribution for 2015-2016. Alternatively, they may simply leave the $10,000 contribution room intact for 2015 and implement the lower $5500 contribution maximum for 2016 going forward. They could also implement that $5500 limit together with a maximum cap to lifetime contributions to the plan.

The TFSA is a must for people who want to build a tax-free income for their future. Younger people can benefit the most due to the long investment earnings horizon they have. Socking the money away at the best possible returns to earn income, tax free, for their lifetime will make them rich. Even a $5500 investment made faithfully every year for 40 years – from the age of 18 to 58 in this example – can save millions of dollars in taxes, at the right rate of return.

It’s significant. We ran some numbers for Manitoba, using a $5500 annual contribution with a 10% average return over 40 years at three different income levels. Take a look at the savings based on 2015 rates:

TFSA INVESTMENT: $5500 A YEAR FOR 40 YEARS; 10% AVERAGE RETURN

Taxable income  Total Balance in TFSA Taxes Saved by Investing in TFSA Comparison: Balance in Taxable Account Additional Returns in TFSA
$58,000 $2,677,685 $1,642,106 $1,035,579 61%
$90,000 $2,677,685  $1,851,646 $826,039 69%
$140,000 $2,677,685  $1,913,018 $764,667 71%

Aside from curtailing tax-free pension building by younger taxpayers, who must bear the burden of a declining population and the costs that go with that, the reduction in the maximum is particularly significant for seniors, who were using the TFSA as a tax-efficient savings vehicle after melting down RRSPs or RRIFs. The tax-exempt earnings in the TFSA are an important hedge against inflation at a time when interest earnings continue to be low.

The April 21, 2015, federal budget pointed out that by the year 2019, seniors are expected to reap 60% of the tax benefits from increasing the TFSA maximum to $10,000, based on current savings patterns. The TFSA is, for them, a very effective way to preserve wealth in a longer retirement. Seniors have few other options to hedge their financial assets against the future rising costs of taxation, prescription drugs and health care services.

Speaking to a Tax Services Specialist about year-end tax planning options is more important than ever this year.

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