I think everyone can agree that a tax-free savings account is a good thing to have. But I have to say, this might be one of the most misused and misunderstood accounts available. Nearly everyone has one, but very rarely do TFSA’s get used to their full potential.
The only two things you can really count on in life is death and taxes, right? Well in the case of the TFSA, the government is allowing you to grow money without paying taxes on what you earn, and we all like to save on taxes.
Why isn’t everyone as excited about these accounts as I am?
Well, it’s because TFSA’s are consistently being used in all the wrong ways, and that turns their potential opportunity into just another savings account.
My husband and I tend to do a lot of projects around our home, and I can’t even begin to tell you how frustrating it is to be using the wrong tool for a job. Usually, it ends up with a lot of effort going into something that didn’t really work out in the end anyway.
Don’t let this be your TFSA. Here are some of the most common ways this financial tool gets misused:
An Emergency Fund
A lot of smart people feel like a TFSA is good place for an emergency fund. Keeping your “extra” funds stowed away in an account that has no penalties for withdrawals isn’t the worst thing you can do. But it also isn’t the best.
If you designate an account as an emergency fund, any bank or personal advisor will tell you it should not be invested aggressively. The reason being that you may have your furnace die right when equities are having a bad week and you will be forced to withdraw funds at an inopportune time.
I’m not a fan of a TFSA as short-term savings for some of the same reasons as above. If you give your TFSA a short time frame (anything under 5-10 years) you are likely to lose out on some serious tax-free growth potential.
With the cumulative total for TFSA contributions per individual being $57,500, as well as the additional yearly $5,500 limit that is expected to rise in 2019, you have the potential to really SAVE.
If you maxed out your TFSA and continued to contribute every year (at the current limit) for 20 years at 6% interest, you would end up with $398,870.29! And don’t forget, you get to withdraw that money TAX FREE!
I don’t know about you but I would much rather have $398k than use this account to save for a new car or couch in a couple of years.
A Chequing Account
If you are consistently withdrawing from your TFSA to cover expenses month to month, you are wasting your opportunity. This also points to an underlying cash-flow problem and you need to lock that down before you start investing aggressively.
You might need to do a bit of work on creating a detailed budget to keep your withdrawals out of your savings in check.
If you are in a place where you aren’t able to max out your TFSA, using it for an emergency fund or savings are fine temporarily. Although I do think that EVERYONE should be moving towards maxing out their tax-free savings accounts and keeping them invested in profitable businesses long term.
In the end, these accounts are yours and you have the freedom to choose what you do with them. Any effort you commit to a savings plan is commendable and a good thing to do. But there is good, and then there is better. You wouldn’t use a hammer to screw in a nail, so don’t leave this opportunity on the table.