TFSA will shake up investment industry
All will benefit, though some more than others
Jonathan Chevreau, Financial Post
Published: Wednesday, March 05, 2008
Peter J. Thompson/National Post
Greg Hurst of Morneau Sobeco says employers offering non-registered savings plans will want to provide group TFSAs.
For advisors, the tax-free savings account (TFSA) announced in last week's federal budget is an exciting development. Whenever Ottawa devises complex new tax structures, it stimulates demand for financial planning.

When it comes into effect in 2009, the TFSA could shake up the pension-and-retirement industry as much as the RRSP did half a century ago.

"In one fell swoop, [Finance Minister Jim] Flaherty has set the stage for a much simpler tax system and a much more advantageous investment environment for income-oriented Canadian investors," says Andrew Teasdale of the Tamris Consultancy. "There is no reason why most investors should not be able to avoid tax completely on non-RRSP holdings."

Chartered accountant David Trahair, author of an RRSP book called Smoke & Mirrors, sees no downside to the TFSA: "It's good for sellers of investments because they can talk investors into maximizing the RRSP and then selling another $5,000 in TFSAs."

Banks and fund companies are already busy devising how to exploit the asset-gathering nature of the TFSAs they'll administer. Sandy Cardy, senior vice-president of Mackenze Financial, says these may mimic RRSPs, with banks offering GIC TFSAs and brokerages offering self-directed TFSAs (no doubt with comparable fees).

TFSAs will profoundly affect estate planning, given they make it easy to bequeath huge nest eggs ($1-million-plus over 40 years of TFSA savings, Cardy estimates).

But the biggest boon will be tax planning, said Greg Hurst, Vancouver-based principal with Morneau Sobeco. The TFSA will "incent individuals to distinguish between retirement savings and discretionary savings, and make deposits between RRSPs and TFSAs accordingly."

Mercer partner and actuary Malcolm Hamilton predicts many low-income earners will choose TFSAs instead of employer-sponsored pension plans because the latter will generate tax in retirement, while the former will not.

However, Hurst thinks TFSAs will be a natural add-on for employer-sponsored capital-accumulation plans. He believes any employer offering non-registered savings plans will want to provide group TFSAs.

While some fear the TFSA comes too late for ageing Baby Boomers, that's not the case.

Clay Gillespie, vice-president for Vancouver-based Rogers Group Financial, says the new accounts "give me a planning technique to get around the age-71 problem." At that age, clients must annuitize their RRSPs or convert them to RRIFs, which generate annual taxable withdrawals, whether clients need all the income or not. After paying tax on RRIF withdrawals, retirees could pump the first excess $5,000 a year of RRIF income back into their TFSAs each year. From that point on, they would shelter the income from tax for as long as they live.

Along similar lines, clients a few years away from age 65 could melt down their RRSPs -- withdraw the funds and pay a little tax on them while you're in a low tax bracket -- and put the proceeds in TFSAs, minimizing future clawbacks of Old Age Security benefits.

Younger clients building wealth could convert $5,000 a year of non-registered assets to TFSAs, Gillespie says. It's not clear whether "in-kind" transfers from taxable plans to TFSAs would trigger capital gains taxes. Toronto advisor and author Preet Banerjee says if such transfers are not deemed dispositions, "that would be significant as you could slowly reduce your unrealized capital gains liability going forward." A Department of Finance official told him the proposal only deals with cash contributions, so that has not been addressed.

Banerjee also suggests clients could contribute to RRSPs in high-earning (and taxed) years, then withdraw from them in low-tax years and put the proceeds into TFSAs.

London, Ont.-based financial educator Talbot Stevens says the absence of earned-income requirements and the flexibility to move money in and out without penalties make the TFSA ideal for retirees. He says it may help clients at all income levels avoid the "behavioural trap" of spending RRSP refunds, since refunds could be flipped into TFSAs. But he believes they will be of most help to those who need it the least.

In theory, TFSAs are more attractive than RRSPs for low-income earners, but the TFSA's long-term benefits may be less compelling than the upfront tax deduction RRSPs offer.

B.C.-based certified financial planner Fred Kirby says client time horizons should dictate choice of investments in the account. If below 10 years, it should hold interest-generating investments, as would RRSPs. Beyond 10 years, TFSAs are ideal for holding foreign dividends and REITs, Kirby says. Canadian stocks and foreign non-dividend payers could reside in taxable accounts.

Banerjee says it may make sense to put equities in TFSAs and fixed income in RRSPs, since TFSAs have a longer time horizon.

Steve Lowrie of Toronto-based Lowrie Financial, says those with 10-to 20-year horizons looking for growth could hold small-cap or emerging-markets ETFs. But he would not put speculative individual stocks in a TFSA because losses mean an absolute loss of precious contribution room.

Investors would not even have the consolation of declaring capital losses. Losses in TFSAs would be worse than comparable losses in RRSPs because RRSPs contain pretax money, while TFSAs hold post-tax money.

Advisors who favour leveraged investing will benefit from the fact TFSAs could be used as collateral for low-interest investment loans.

Not all advisors are thrilled by the TFSA. Some would prefer to have seen the capital-gains rollover promised by the Tories some years ago. Others would prefer a return to the days when the first $100,000 of capital gains were tax-free. Compared to either measure, the TFSA is "too little, too late," said Warren Baldwin, regional vice-president for Toronto-based T. E. Wealth.

Younger advisors may forget that 20 years ago, Canadians enjoyed a $1,000 annual deduction for interest, dividends and capital gains. That was a full deduction, not just a tax credit. They also enjoyed a pension deduction of $1,000, which would be worth almost $2,000 today had it been indexed to inflation.

Baldwin says anyone who is 18 years old in 2008 should file a tax return regardless of how much income they earned so they'll be in the system in time to qualify for the annual designation of $5,000 TFSA room.
Chevreau blogs at