June 12, 2019

Despite Widespread Belief, TFSAs Can Stay Liquid

A few weeks back, we were kind of stunned when we discovered someone in the family (Ray not to name her) had a lot of money in a savings account but did not register it as a Tax-Free Savings Account (TFSA). Interests gained in that account resulted in a juicy tax bill for her. Unnecessary because she still had plenty of TFSA contribution room available.

The money was not put in a TFSA because it was primarily used for emergencies and to pay for imminent renovations and Ray thought funds in a TFSA were not easily accessible. We checked with other members of the family and again, to our surprise, a lot of them believed TFSA money was not liquid at all. For many, TFSAs and RRSPs are all the same…money stashed there won’t be accessible till…far away retirement. So, many folks have the impression that TFSA money is tied up in some way that would prevent immediate access to their funds. But in fact, this is not true.

It’s sad because despite our financial knowledge and a lot of effort, money remains a taboo subject for many in the family. It seems like the more you are successful with money, the more people get shy and the less they are willing to talk about it. We try to remain humble about all of it, but it appears our glow still scares quite a few. These poor folks (no pun intended) prefer to keep things as anonymous as possible and give their trust to alleged advisors.    

So, another one greatly handled by so-called expert advisors. In this case, with no commission in play, the «expert» simply did not bother.
The Frozen TFSA Asset Misconception

Somehow, many people think TFSA funds are frozen and not easily accessible. And, despite the fact we love Disney, we are not talking about Frozen starring Anna & Elsa. And in reality, your TFSA might be more like Olaf, the chill snowman that loves and dreams about summer.

Contrary to popular belief, TFSAs funds can remain fairly liquid. TFSA liquidity depends more on the investment vehicle you chose. Registering your investment or savings account as a TFSA does not change its liquidity status.

For instance, a Tangerine savings account like Ray’s would typically give you access to your money within about 2 business days. It does not matter if your money is in a regular account or a TFSA, access to your funds would take the same time.

The funning thing is that GICs (Guaranteed Income Certificates), often the «safe» choice of many for their emergency fund, would actually not be that liquid. Most of the time, you have to wait for GICs to expire to have access to your money or you will at least lose interests if you withdraw them before term.

It’s still true that if you buy stocks in your TFSA, they will not be as liquid. You will still have to sell stocks before you can cash them out. In that context and because stock investments are only viable long-term (that’s at least a fundamental principle we pledge to), it may not always be advisable to obtain cash from them. When going for withdrawals, fluctuating short-term lower stock prices could be costly.

That being said and as we will discuss further down, your brokerage account cash balance and dividend payments can still be easily accessible even if your investment accounts are labeled TFSA. Again, the TFSA label won’t affect their liquidity.

TFSA regulations are often mixed up with RRSP’s. People think TFSAs are designed only for retirement savings and that there will be fiscal consequences if they extract funds for them too soon. They most often view TFSAs (and RRSPs alike) as frozen retirement assets that you can’t touch now.

People also think they will never be allowed to recontribute TFSA withdrawals. They believe associated TFSA contributions, like RRSP’s, would be lost forever.    

Let’s rectify these untruthful popular assertions. First, TFSA withdrawals won’t produce any ensuing tax bill. Because TSFA contributions did not get you a tax deduction in the first place and contrary to RRSP’s, TFSA withdrawals will not add up to your taxable income. By definition, they are simply tax-free.

Second, you can kind of recuperate TFSA withdrawals as they will generate equivalent contribution room for next year. If your overall TFSA contribution room is exhausted, you just have to wait till the following year to recontribute an equivalent of your withdrawals.

Avoidable Taxes That Can Quickly Add Up

In Canada, if you still have room to contribute to your TFSAs, it’s almost a crime to pay taxes on savings or investment. You simply have no excuse.

On top of contribution room accumulated over the years, you will even get renewed TFSA contribution room each year. For instance, an extra 6000$ in 2019 if you are over 18. Hence, combined with your spouse, it means that your family could invest at least 12000$ a year tax-free from this year on. That’s quite a lot!

Parking cash in a savings account to cover upcoming renovations is a smart financial practice. But not registering it as a TFSA could be a very costly mistake. For instance, 20K$ paying only 1.5% interest for a year would result in 300$ added to your taxable income. If we suppose a 40% marginal tax rate, that’s 120$ (300$ x 40%) you will pay the taxman for nothing. Furthermore, interests get the severest tax treatment possible as they are fully taxed contrary to dividends and capital gains that are taxed less aggressively. 

It can really add up if you do that every year. Just imagine if you parked 50K$. Or consider that after a lot of years with historically low interest, we can expect rising rates will mean more interests on our savings account (great news). But if you don’t register it as a TFSA, it will also mean more money wasted to the insatiable taxman (not so great news).

Call it what you want: throwing money out the window, giving money away… Anyway, it’s a bad thing to miss out on. The only consolation you could have and it’s a bleak one, is that your needless tax contributions may serve the collectiveness. You could also let wealthy folks make donations. They can afford it more.    

By the way, those rich people won’t hesitate to take advantage of any fiscal law that will allow them to save on taxes like TFSAs. Tax-free savings and investments are a no-brainer for them. Sadly, a lot of less fortunate people don’t bother and often end up paying taxes for nothing. Maybe that can partly explain why they remain poor.

Easy Digital Transfers and TFSA Emergency Fund

From our prolific experiences, we have found TFSAs quiet flexible. TFSAs can easily be used for your emergency fund or to manage cash flow.

In today’s tech world, digital money transfers are literally at your fingertips with any basic access to the web via any smart device. This straightforward modern accessibility also applies to TFSAs.

Since its inception, we have often transferred money in and out of our Tangerine and Questrade TFSAs via our non-registered joint bank account. We use our Tangerine accounts to park short-term savings and emergency fund. Our Questrade TFSA accounts allow us to trade stocks.  

Usually right after we got our paychecks every two weeks, we used to make a lot of transfers between all those accounts to manage cash flow and to minimize cash in our TFSA investment accounts. Parking cash in our high-interest Tangerine accounts would pay us a little extra interest and that somewhat elaborate strategy enabled us to squeeze every penny out of it.

All those digital operations always went thru smoothly but they may not always be worth the trouble. We still use that method but more sparingly. As we talked about before, we have now Stopped Wasting Time Chasing Short-Term Rates and only concentrate on more substantial saving opportunities.

If you are close to your TFSA contribution limit, just be careful with frequent in-and-outs because by design, TFSA withdrawals won’t immediately generate contribution room. The related contribution room will only be usable the following year.

In the end, TFSAs are a must to improve the financial wellbeing of most Canadians. They can be versatile using the proper financial vehicles. While remaining extremely tax efficient, they can serve you well both for short-term savings and long-term investing.

The broad financial principle at stake here is quite simple: regarding TFSAs, tax-free sounds and is always better. So, to avoid any undue tax, make sure to TFSA register all your savings and investments as much as you can, if you prefer, within your contribution limit. Or should we say, limits, because TFSAs are available to every adult in your family.

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