The TFSA was introduced to Canadians on January 1st, 2009 – Thanks to Jim Flaherty who was the Minister of Finance at the time.
Similar to the RRSP, a TFSA is a special type of savings account registered by the Canadian government that allows Canadians to save and invest money in a tax-friendly manner.
It’s important to note though, standing alone, a TFSA is not an investment. It’s more so like a bucket where you can hold your investments and generate tax benefits for doing so.
Okay enough of the history lesson, you came here to better understand the advantages and disadvantages of the TFSA, so let’s get into it.
| TFSA Advantages | TFSA Disadvantages |
|---|---|
| 1. Tax-Free Investment Income | 1. TFSA Contributions are Not Tax Deductible |
| 2. Easy Withdrawal Process | 2. No Grace Amount for TFSA Over Contributions |
| 3. TFSA Contribution Room is Not Determined By Income | 3. Withholding Taxes Apply for US Dividends |
| 4. Various Investment Options | 4. TFSAs are Not Protected from Creditors |
| 5. Unused TFSA Contribution Room Never Expires | 5. Day-Trading is Not Allowed Inside a TFSA |
| 6. TFSA Withdrawals Won’t Affect Government Benefits | 6. Withdrawal Process is Too Easy |
So as you can see, TFSAs are really great investment vehicles for new investors who are looking to get started.
When your at this beginner stage though, most people (myself included back in 2016) don’t know how to get started, and this is why I always recommend Wealthsimple Invest. Not only is Wealthsimple a Canadian company, but the sign up process is all online, it’s completely free and it only takes a few minutes (literally). Plus, you’ll get a $50 cash bonus with your sign-up. Not bad, hey?
SETUP A TFSA WITH WEALTHSIMPLE INVEST
TFSA Advantages
1. Tax-Free Investment Income
One of, if not the biggest advantage associated with a TFSA is that you won’t get taxed on any of the investment income you earn.
And unlike your RRSP, you won’t even get taxed when you decide to withdraw your investments.
For example, if i invest $10,000 into a TFSA and I generate an 8% return, I’ve made myself $800! Wahoo.
What’s even better is that that $800 income is completely tax free. I can withdraw it from my account and not have to worry about getting taxed on it. How sweet is that?
Let’s say my friend Daniel also invested $10,000, but he did it outside his TFSA in just a normal investment account.
If Daniel generated the same 8% return I did, well that’s great, but unlike me, Daniel will have to pay taxes on his $800 investment income.
What if Daniel invested his $10,000 into an RRSP and then withdrew his earnings (before retirement)? He’d still be taxed, in fact, he’d be worse off doing that then he’d be investing in a non-registered investment account.
That’s one of the big advantages of the TFSA, not only will your investments grow at a tax-free rate, but you won’t even get taxed on the withdrawal either.
Here is an in-depth article I wrote about TFSA withdrawals and how they don’t impact your taxable income.
Now there is an exception called a withholding tax, but will talk about this later.
2. Easy Withdrawal Process
Another advantage of the TFSA is that withdrawing money from your account is a very easy process.
Unlike your RRSP where you have to deal with things like withholding taxes, buying annuities, opening RRIFs, it’s all just a bit much. Not with a TFSA withdrawal though, the process is so easy, it’s a joke!
It may take a few days to sell off some of your investments and convert them into cash, but that’s the case when you sell any type of security.
So if you’re planning to invest money in the short term, and you haven’t already maxed out your contribution room (which will talk about soon), investing within your TFSA is the way to go.
You won’t get additional tax forms or anything like that, you just withdraw the money and move on with your life.
So how is this different than withdrawing money from an RRSP? Well if I withdraw $1,000 from my RRSP (assuming I’m not retiring), I will be forced to pay a withholding tax fee, plus that income will be added onto my taxable income.
So not only will I not receive the full amount I withdraw, but the added paperwork required come tax season will just be a pain.
On the contrary, if I withdraw that money from my TFSA, no paperwork, no withholding taxes, no nothing, just take your money and enjoy it.
3. TFSA Contribution Room is Not Determined By Income
Another reason why TFSAs are so advantageous for all Canadians is because your available contribution limit is not impacted by your income.
Again, I know I might be picking on the RRSP a little bit here, but the amount you can contribute to your RRSP each year is directly related to your income.
But not with the TFSA. While yes, some people can contribute more than others in any given year, their available contribution room is not determined by how much money they make.
It’s more so dependent on the age of the individual and their previous withdrawals and deposits.
Now that might sound a little confusing, but here’s a video I made on how you can easily check your TFSA contribution room. (It’s super simple I promise)