Tax Free Savings accounts have been implemented for Canadian citizens by the Canadian government since 2009 (Government of Canada). That means that if you have been over the age of 18 since they started the TFSA, you will have $20,000 of contribution room this year.
Because the TFSA stands for Tax Free Savings Account, many people mistakenly believe that it can only be used as a savings account.
To me, $20,000 (and more) is a lot of money in a savings account… and if you account for your spouse, that’s $40,000 of tax free savings account money. Although everyone says to keep 3-6 months of income in cold, hard cash in your emergency fund, as the amount Canadians can contribute gets higher and higher, the utility of the TFSA as a pure savings account decreases proportionately.
Considering that most high interest savings account rates give you 1.8 to 3% interest at most (People’s Bank has 3% interest), on $5000 at 3%, that’s just $150 that you are sheltering away from the government. If your marginal tax rate is at around 30%, that’s $50 that you are saving in taxes by putting your $5000 into a tax free savings account- high interest savings.
It doesn’t seem like much, does it?
TFSAs are actually like RRSPs, where you can fill the empty pot with whatever you like. Whatever goes in the pot is up to you.
Well, let’s look at the options for the TFSA:
High Interest Savings Account or Guaranteed Income Certificates
Most people choose this option because it’s easy to set up and the acronym TFSA has the word “savings” in it, so people automatically assume that you need to put your TFSA money into a savings account.
There are many different ones to choose from, like ING Direct, the big banks (BMO, Royal Bank, CIBC), Ally Bank etc. etc. most have similar or slightly better interest rates.
GICs give you similar rates, sometimes slightly better but lock you in for 1 year, 2 year, or 3 year (or more) and you get paid the interest at the end of the term.
These can be purchased through your financial advisor and are considered a basket of stocks. Most mutual funds have a small fee taken off the top of your investment annually and it ranges from 1.5 to even 3.5% at some institutions.
This is probably the easiest way to invest in your TFSA.
DIY Investment Account
You can buy stocks yourself at most discount brokerages, like Scotia iTrade, BMO Investorline, and Questrade. Be forewarned though, this option might not be for the faint of heart because if your $5000 investment goes to $1000, you won’t get to use it for capital loss. This is the option that I have chosen to use with my TFSA and so far it has been working well for me. I buy blue chip Canadian stocks to put into my TFSA portfolio.
Some advisors initially recommended that you buy really high “growth stocks” that have a large potential for upswing. For example, let’s say you bought $5000 of a risky stock but it shot up to $10,000. $5000 compared to $150 is quite a big difference. You could take that $10,000 out and you will have an additional $10,000 to invest the next year.
Instead of dividend stocks, you could buy ETFs (Exchange Traded Funds) which are basically like mutual funds except that they have a much lower “commission”- 0.50% in most cases.
Many companies are coming out with index funds. This is a ‘set it and forget it’ method that I also really like. I would choose this option if I had more discipline to not buy dividend stocks all the time. It’s a great way for beginner investors to get started with investing because it tracks the stock market and you don’t have to “beat” the market (because likely you won’t be able to nor will your financial advisor).
TD e-series, ING Direct Streetwise Funds, and CIBC all have index funds available.
As you can see, there are many different options for your Tax Free Savings Account and the “Savings” doesn’t stand for “savings account” it stands for the government wanting you to save your money for the future, for your down payment, or for an emergency.
If you see yourself needing to use that money in the short term, then by all means, the high interest savings account or the GIC option are the best for you. It’s all about what fits for you. After all, it’s your money!
Bargainmoosers, what do you do with your TFSA?