Introduced in the 2008 federal budget, the Tax-Free Savings Account (TFSA) is the most lucrative account structure that has been created for Canadians at least since the creation of the RRSP account. Initially, it likely wasn’t clear just how valuable these accounts would as you could only invest $5,000 into them in the first year but just 10 years later the lifetime contribution room available is about to become $69,500 in 2020. If you have been investing since 2009 it is not out of the question to see $100,000+ accounts and in some cases the account values have ballooned significantly higher than that, oh and did I mention that the returns are all tax free??
But wait a second… how have portfolios grown that much in TFSA’s, especially with interest rates as low as they are? One of the biggest misconceptions about TFSA accounts, even 10 years in is that they can only be invested in low interest-bearing options including GIC’s and savings accounts. A study from RBC a few years ago identified that 44% of TFSA holdings were in “high interest savings accounts”. Another 21% was allocated to GIC’s. This is not surprising given that every bank or credit union branch often advertises TFSA’s for these products, but little do most people know that you can invest in your TFSA with the same type of holdings as you can your RRSP. This is where some people have been able to make huge tax-free gains.
There is a story from a few years ago about a trader who amassed $1.22 million in his TFSA in just 6 years. He did so by investing in high risk strategies, namely by making concentrated investments into penny stocks which luckily worked out for him. The story goes on to tell that investor made so much money that CRA literally didn’t believe that it was possible and performed a lengthy audit of his accounts. There are many people who saw this story and will remember the million-dollar TFSA but what most people will ignore is that the same investor used the same strategy in his RRSP’s and contributed to them over a 20+ year period. The value of his RRSP at the time of the story being written was just $50,000 as he nearly lost everything he put into the account. So, this highlights the very high risk strategy of how you can accumulate $1 million in a TFSA but certainly this is not the only way nor is it likely to be the most successful… by a long shot.
The truth is, if you are investing into your TFSA on a regular basis and investing it (based on your tolerance for volatility) in investments which will earn more than conservative interest bearing investments then it is almost a mathematical impossibility that it won’t become a million dollar account for you at some point. Take for example if you are 25 years old today and have $10,000 invested in your TFSA and you earn a modest 6% per year. If you set up regular contributions of $250 twice monthly, your account will be worth approximately $1,031,428.97 by the time you are 65 years old. Again, have I mentioned that the money from your TFSA is tax free? A million-dollar TFSA is nearly like having a $2 million RRSP account when you consider taxes and the flexibility it can provide you in your retirement income. Consider the fact that if all of your investments are in TFSA’s in retirement, any money you draw out of it will not contribute towards your income. According to the CRA your income will be $0 and so you will qualify for every low income benefit available to you at that time.
So does this mean you should invest all of your money into TFSA’s going forward instead of RRSP’s? The short answer is a big NO! RRSP’s still are great accounts and provide great benefits as well. What is clear however is that TFSA’s have historically been underutilized and many investors are not taking advantage of their full potential. In a proper financial plan, your tax situation will be optimized and projected forward for the rest of your life so that you can determine based on what you know today how much you should invest into the different accounts. This is so important to understand because as you can see, you might literally be saving yourself hundreds of thousands in taxes over time.
-Grant White, CIM, CFP®
Grant White is a Portfolio Manager/Investment Advisor at Endeavour Wealth Management with Industrial Alliance Securities Inc, an award-winning office as recognized by the Carson Group. Together with his partners he provides comprehensive wealth management planning for business owners, professionals and individual families.
This information has been prepared by Grant White who is a Portfolio Manager for Industrial Alliance Securities Inc. (iA Securities) and does not necessarily reflect the opinion of iA Securities. The information contained in this newsletter comes from sources we believe reliable, but we cannot guarantee its accuracy or reliability. The opinions expressed are based on an analysis and interpretation dating from the date of publication and are subject to change without notice. Furthermore, they do not constitute an offer or solicitation to buy or sell any of the securities mentioned. The information contained herein may not apply to all types of investors. The Portfolio Manager can open accounts only in the provinces in which they are registered.