Investing tips: How to get the most out of your TFSA

A Tax-Free Savings Account (TFSA) is a fantastic tool for Canadians to save and invest money.

It’s an extremely popular account, with more than 15.3 million total TFSA holders in Canada as of 2019, according to data. Canada Revenue Agency (CRA).

Here are eight tips to get the most out of your TFSA:

1. INVEST INSIDE YOUR TFSA

Because TFSAs contain the words “savings accounts,” many Canadians think that all you can do is save in one, when in fact, it’s much more versatile. Your TFSA can also hold a variety of investments, including stocks, bonds, ETFs, mutual funds, and more.

You can invest in your TFSA in several ways.

1. All major banks will have TFSA accounts that you can open and invest in just by calling them or visiting a bank branch, but this can be an expensive option with high fees as they will usually try to force you to invest in mutual funds.
2. A cheaper way to consider investing in a TFSA is through robo-advisors. You will choose your portfolio for you based on your risk tolerance and goals.
3. If you really want to save on fees, the best way is to open a TFSA and invest directly yourself using a discount broker, but this requires the most investment knowledge.

Investing is where the real power of a TFSA comes in, because if you invest tax-free over the long term, you can potentially earn much better returns than if you just save money in the account. It is important to choose investments that match your risk tolerance and investment goals.

Keep in mind that investing in a TFSA involves risk, and there’s a chance that your investments could lose money, especially in the short term.

If you insist you’re still only using your TFSA for savings, remember that some banks have much higher interest rates than others, so shop around to find the best rates.

2. ARE YOU REGULAR INVESTING?

You can contribute up to $6,500 per year (as of 2023) to your TFSA.

If you haven’t used your TFSA contribution room in previous years, you can still invest to catch up.

If you’ve never contributed to a TFSA before, you can pay up to $88,000 if you qualify for the full amount in 2023.

Invest regularly to take advantage of the full investment limit and grow your investment or savings over time.

3. USE YOUR TFSA FOR LONG-TERM GOALS

A TFSA is a great way to achieve long-term financial goals because all investment income and capital gains in your account are tax-free.

Consider using your TFSA to save for important long-term goals like retirement.

4. DO NOT DISCARD THE FUNDS

Avoid withdrawing funds from your TFSA unless absolutely necessary.

Every time you withdraw, you lose that year’s investment room, meaning you may not be able to withdraw that amount again until the following year without penalty.

You’re also missing out on the real magic of a TFSA, which is that if you invest inside it long enough, the tax-free compounding effect can give you big returns over time.

Note that the penalty is only relevant if you are close to your total TFSA contribution limit. If you’re not close to that limit, it probably won’t affect you.

Here are some examples of how it works:

1. Let’s say you have a TFSA limit of $88,000 and you’ve already maxed out that amount. If you withdraw $10,000 from your TFSA, you won’t be able to pay it back until the following January without penalty.
2. Let’s say you have a TFSA limit of $88,000, but you’ve only used $50,000 of that limit. If you withdraw $10,000 from your TFSA, you can still withdraw up to $38,000 ($88,000 minus $50,000) that year without penalty.

5. AVOID OVERPAYING

Contributing too much to your TFSA can result in penalties from the CRA. There is a current penalty for over-contributing to a TFSA 1% per month of the excess amount until it is withdrawn.

For example, if you contribute more than $1,000 to your TFSA, you will be charged a monthly penalty of $10 until the excess is withdrawn.

If you accidentally overinvest, you should withdraw the excess as soon as possible to minimize penalties.

It’s important to track your TFSA contributions and withdrawals to avoid over-contributing. You can check your investment limit by logging into your CRA account or by contacting CRA directly.

6. CONSIDER USING YOUR TFSA TO HOLD HIGH GROWTH ASSETS

If you want to invest in high-growth assets like small-cap stocks or emerging market funds, consider keeping them in your TFSA.

That way, any capital gains you make will not be taxed, allowing you to maximize your returns.

Be careful with this strategy because high growth assets can also lose a lot of money.

7. GIVE YOUR SPOUSE MONEY TO INVEST IN A TFSA.

There are no unitary TFSAs in Canada. If you’ve reached your TFSA contribution limit, but your spouse or common-law partner hasn’t, consider giving them money to invest in their TFSA.

This can help maximize your tax-free savings as a couple.

8. AVOID USING YOUR TFSA FOR DAY TRADING

If you use your TFSA to day trade, the CRA can consider it a businessand you may be taxed on your trading profits.

This can be particularly problematic because day trading can result in large gains or losses in a short period of time, and the taxes owed on those gains can be substantial.

KEY TFSA TAKEAWAYS

Remember, the key to getting the most out of your TFSA is to invest regularly, invest and save wisely, and use it for long-term savings goals.

Also, avoid withdrawing from the TFSA for as long as possible. The sooner you start contributing, the more you can take advantage of the TFSA’s compounding effects.

Christopher Liew is a CFA charter holder and former financial advisor. He writes personal finance advice for thousands of Canadian readers every day Wealth Awesome website.

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