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It doesn't slice or dice, but it can save you money
The Tax Free Savings Account is the most revolutionary savings vehicle since the RRSP, experts say
By Terrence Belford
Ask financial advisers what they think of the new Tax Free Savings Accounts program launching on Jan. 1, and their response brings to mind Samuel Popeil, television pitchman for the Veg-O-Matic.
According to Mr. Popeil, the Veg-O-Matic was a true kitchen magician. It sliced, diced, chopped, cubed and even made French fries. Its appeal was its flexibility and the broad range of chores it performed, and you didn't have to be an expert chef to use it.
So too is the appeal of the TFSA program, unveiled in last spring's federal budget, financial advisers say.
Under the program, anyone aged 18 and older can open a special registered savings account, a TFSA, at a financial institution; place in it any sort of investment allowed in a Registered Retirement Savings Plan, up to a value of $5,000 a year; and then pay no taxes on the income earned, or any capital gain when the investment is withdrawn.
"The TFSA is the most revolutionary savings vehicle to be introduced since the Registered Retirement Savings Plan 51 years ago," says Debbie Ammeter, vice-president of advanced financial planning at the Investors Group in Winnipeg.
"It offers enormous flexibility that is lacking in RRSPs and can fill any number of short- and long-term savings goals."
Unlike an RRSP, for example, money in a TFSA can be used as collateral against loans.
And any amount withdrawn in one year can be replaced the following calendar year, in addition to the annual $5,000 maximum. Nor will investments in TFSAs be counted as income or assets to qualify for government benefits and pension supplements that carry a means test. Lee Anne Davies, head of advanced retirement planning at the Royal Bank of Canada, says TFSAs are not an end in themselves but rather a valuable tool to reach personal financial goals - especially for retirement years.
"You can't look at them in isolation," she says. "The approach for investors has to be to first identify the lifestyle they want to enjoy in 10, 20, 30 or 40 years. Then you investigate how you can use a Tax Free Savings Account to generate the cash needed to support that lifestyle."
The advantages of a TFSA are considerable, financial experts say.
One of the most significant benefits is that money withdrawn from a TFSA carries no tax penalties.
Robert McCullagh, a financial adviser with Benefit Planners Inc. of Calgary, and treasurer of Advocis, a national financial planners' association, expects TFSAs will be a hit with consumers, especially those planning for retirement.
"There just have not been many great products that confer significant tax savings on the average Canadian's investments, but this is one of them," he says.
"Granted, it took RRSPs almost two decades to catch on, and that was only when the banks got into them big time. I think TFSAs will be embraced a lot faster."
While financial advisers are excited about TFSAs, there are signs the general public is less enthusiastic. But lack of knowledge, not lack of money, is the main impediment, a survey by Investors Group suggests.
Less than half (46 per cent) of Canadians plan to open a TFSA when the program takes effect on Jan. 1, the survey found, and only about 17 per cent will contribute the maximum of $5,000 a year.
Those who don't plan to open a TFSA cited lack of knowledge about the new savings tool. About 46 per cent said they were uncertain about how TFSAs worked, preferred to wait and see, or did not know.
Only 21 per cent said a lack of money was the reason they do not plan to invest in a TFSA.
"One of the chief problems is that TFSAs are so flexible and offer benefits to such a wide range of people - that very flexibility may be posing a challenge," Ms. Ammeter says.
The solution? Lots more information for consumers. According to the Investors Group survey, 60 per cent of respondents said they wanted to discuss how TFSAs would be of benefit before opening an account.
"I think we are going to need some time working with our clients to show where this new product can fit into their individual plans," says RBC's Ms. Davies.
"I knew understanding the benefits might be a challenge, so as soon as TFSAs were announced last spring I sent a newsletter to all our clients," says Tina Tehranchian, branch manager for Assante Capital Management Ltd. in Richmond Hill, Ont.
"While the initial response was very favourable it was obvious that ... people would have to work with an adviser to get the most benefit from them."
And those benefits can be considerable, advisers say.
For example, while money withdrawn from an RRSP immediately triggers a tax burden, money taken from a TFSA has no such penalty because income tax has already been paid on the principal sum, and the interest or capital gains on things like mutual funds and equities is tax-exempt.
And while money withdrawn from an RRSP to help a first-time home purchase must be repaid within a fixed period to avoid income taxes, money withdrawn from a TFSA for the same reason will carry no such obligation.
"Another advantage is that there is no attribution rule," says Mr. McCullagh. "That means you can put $5,000 a year into TFSAs for spouses and children 18 and up without affecting your own eligibility or incurring tax liabilities on the income earned in those accounts."
"I am looking now at setting up accounts for my own kids and buying shares in Western Canadian oil companies for them while the market is down.
"Any gains they make when the market goes back up will be totally tax-free."
Advisers also say TFSAs should be used as a companion to an RRSP, not a replacement.
But they note that TFSAs can be a great way to increase retirement savings for people who are already contributing the maximum each year to their RRSPs, as well as for those over the age of 71 (after which RRSP savings are not allowed).
"If I start putting $5,000 a year into a TFSA now - I am 42 - and get a yield of just 6 per cent a year, then by the time I am 65, I will have another $235,000 to fund my retirement," Mr. McCullagh says.
"I just wish the age limit was lower," adds Ms. Davies. "If it was, I would start making use of one right now for my three-year-old daughter."
Special to The Globe and Mail