Tax-free savings account rhetoric heats up

The tax-free savings account (TFSA) got a big profile boost recently when Conservative Leader Stephen Harper promised during the election campaign to increase the yearly contribution limit to $10,000 from the current $5,000 if his government was re-elected and the country’s books were balanced.

The tax-free savings account (TFSA) got a big profile boost recently when Conservative Leader Stephen Harper promised during the election campaign to increase the yearly contribution limit to $10,000 from the current $5,000 if his government was re-elected and the country’s books were balanced.

The promise seemed to reignite some of the rhetoric that has surrounded the TFSA since it was first introduced in 2009: Is it a better savings vehicle than the registered retirement savings plan (RRSP)? Does raising the contribution limit benefit wealthier Canadians or everyone? Should the government even be offering a TFSA or should it be increasing the Canada Pension Plan and Old Age Security instead?

While the questions may be good ones, they also may be moot ones because data shows that Canadians simply are not saving enough for their retirement, regardless of which savings vehicle they use.

“Regardless of age, Canadians find it hard to save,” said Patricia Lovett-Reid, senior vice-president of TD Waterhouse. “Canadians currently have two great accounts (RRSPs and TFSAs) that offer tax-advantaged savings that they are not taking full advantage of.”

According to Statistics Canada, 6.1 million Canadians contributed more than $33 billion to RRSPs for the 2009 taxation year. Only 31 per cent of eligible tax filers contribute to their RRSP and use only six per cent the total room available.

That’s down slightly from 2008 when nearly 6.2 million filers contributed just over $33.3 billion.

Since 2009, about 4.7 million Canadians have opened TFSAs, which have a combined market value of $18 billion. Money withdrawn from them is not taxable and unused contribution room can be carried forward.

Further, the median RRSP contribution is $2,680. The average age of contributors is 45 and the median income of contributors is $51,570.

“Given the average age and median contribution means that the average Canadian is not contributing enough towards creating a secure retirement nest egg,” said Lovett-Reid.

“A big part of it is that Canadians of all age groups find it hard to save.”

Currently, the personal savings rate of Canadians is approximately four per cent, a far cry from the 10 per cent plus savings rate of the 1980s. And Canadian debt to disposable income has risen from 0.90 in the early 1990s to 1.48 now, roughly the same level as in the United States.

“Increasing TFSA limits will likely not provide a big boost to savings as people are already not using their tax-efficient accounts anyway,” Lovett-Reid said.

Increased TFSA limits likely will benefit high-income earners and provide some relief to seniors.

“An increased TFSA limit would be most heavily exploited by workers at higher earning levels above the $125,000 level, where the existing RRSP/RPP limits constrain access to tax-sheltered savings,” Jon Kesselman, Canada Research Chair in public finance and professor with the school of public policy at Simon Fraser University, wrote in an article in the National Post.

Seniors over 71 who are forced to withdraw unneeded funds from registered income fund (RIF) accounts also would benefit as they would be able to contribute more to TFSAs and invest in a tax-free environment.

“These funds could be withdrawn tax-free at a later day to enhance retirement lifestyle,” Lovett-Reid said.

“Another group that might use additional TFSA space is upper-middle earners in earlier stages of their careers anticipating higher future earnings; they could save via TFSA initially and move their TFSA funds to RRSPs when their earnings rise into higher tax brackets,” Kesselman said.

Increased TFSA limits could help people who have maximized their RRSP contribution and could help improve income-splitting strategies.

“Income attribution rules do not apply to TFSAs, so the higher-income spouse can gift funds to the lower-income spouse to contribute to a TFSA,” Lovett-Reid explained. “Parents and grandparents also can gift funds to an adult child or grandchild to contribute to a TFSA, which can be withdrawn tax-free in the future to fund education costs, purchase a first home or for other expenditures.”

The TFSA opens up more opportunities for Canadians to save their money. They just have to start doing it more.

Talbot Boggs is a Toronto-based business communications professional who has worked with national news organizations, magazines and corporations in the finance, retail, manufacturing and other industrial sectors. He can be contacted at boggsyourmoney@rogers.com.