TFSA, the Tax-Free Savings Account--Part II

Hello again!

This letter is Part II of my information on the new TFSA, the Tax-Free Savings Account.

"With its ability to immediately shelter investment-related income from taxation, the TFSA should become an indispensable wealth planning tool for all Canadian investors," ---says Doug Carroll, Vice President, Tax & Estate Planning at Invesco Trimark.

I sent out Part I before Christmas and again a few days ago. Part II today is meant to sharpen your thinking on the TFSA and how it can be an opportunity for you. We are all used to paying tax on investment growth. We put money in a savings account and we have to declare the interest and pay tax. Or if we buy a mutual fund or stocks and bonds outside an RRSP or RESP, we will again receive investment growth that we have to pay tax on. The TFSA eliminates, forever, any tax on investment growth and thats what makes it exciting.

So you ask--"If I'm going to take advantage of a TFSA, what do I need to have to get going?" The answer is--

--money to invest. You can put in up to $5000 into a TFSA in 2009 either with a lump-sum or set up a monthly automatic PAC plan with as little as $50 per month. If you don't have any money but you do already have OPEN investments [i.e. investments outside an RRSP or RESP], you can transfer $5000 from your OPEN investment into a TFSA.

"So I have some money but should I be putting it in my RRSP or RESP [an educational savings plan for your kids]?

Yes, most people should contribute to their RRSP and RESP first, before setting up a TFSA. [If you're not sure you are "most people," then just ask me.]

"OK, so I have some money to put in a TFSA, so what should I invest in?

A TFSA can hold the same investments as an RRSP or RESP. So the question of what to invest in is the same as always and depends on--

--how long you are going to invest for.

--whether you want conservative investment returns, OR long-term growth.

Other things to consider--

--when you take money out of a TFSA, you can put in back into the TFSA but not until the following year. Therefore, a TFSA does not work as a short-term savings account where you are putting money in and out of the account regularly.

--the TFSA has one advantage: sheltering investment growth from tax. It follows, then, that the more growth you have in your TFSA, the greater the tax you save. Consider two investors each 50 years old. They each plan to put $400 per month into a TFSA for 15 years. The first investor puts his money into a conservative investment earning 4% [interest]. After 15 years, he will have $98,000 and will have saved $10,400 in taxes.* The second investor goes for growth at 8% per year [capital gains]. After 15 years, he will have $138,000 and will have saved $13,200 in taxes.**

Having said this, the foremost consideration for any investor is when he needs his money back from the TFSA: if he wants his money back in 3 years or less, the conservative investment approach is required.

*as compared to making the same investment outside a TFSA.

**remember that capital gains are taxed at a lower rate than interest income.

Bye for now,

Tom

Tom Buck, M. Ed. CFP
Certified Financial Planner
Assante Financial Management Ltd
#600, 1414-8th Street SWCalgary, AB T2R 1J6
TEL 403.229.0128
FAX 1.866.386.9776