hey guys it's Adrian here the Canadian in a T-shirt and today I'll be breaking down
what is a TFSA and how to invest in your TFSA to
maximize your tax-free long-term growth I'll go over the benefits of a TFSA the
contribution limits based on your age the rules to follow and at the end I'll
go over what kind of investments you should hold in your TFSA to maximize
your tax efficiency the TFSA stands for tax-free savings account and it is
one of the most important tax sheltered accounts offered in Canada along with
the RRSP since the TFSA is tax sheltered this means that any Canadian income you
earn in your TFSA will not be taxed so your investments inside a TFSA will
grow much faster than they would in a non-registered account whenever you gain
income in Canada the government takes a piece of this profit in the form of
taxes I went over the three ways to earn income and the basics of taxes in
Chapter one of my Canadian tax guide so click the pop up at the top right to
check that video out first the three main sources of taxable income in Canada
are employment income through working a job business income and investment
income using a tax sheltered vehicle like the TFSA is the best way to
maximize your investment income investment income includes interest
would you earn through a savings account GICs or bonds. Dividends you earn from
stocks and ETF. Distributions which are very similar to dividends but they are
taxed differently distributions come from REITs and income trusts and capital
gains which is the profit you earn whenever you sell a stock or an ETF at a
higher price than you bought it for interest dividends and distributions
continually earn you income either every month or every quarter
whereas capital gains are a one-time source of income you make whenever you
sell your assets whenever you earn income through these four sources the
Canadian government will take a piece of this through taxes I'll go over how each
of these sources of investment income are taxed in an upcoming video but if
you use a TFSA all of these income sources will be tax-free if they come
from Canadian Investments TFSA stands for tax-free savings account but this
name is misleading your TFSA does not have to be a savings account you can put
almost any investment in your TFSA your TFSA is a
large umbrella where you can hold stocks bonds ETFs mutual funds
GICs, REITs and cash in a savings account and as long as these assets
remain inside the TFSA umbrella you won't be paying any taxes on them in
fact you should treat your tax-free savings account as a tax-free investing
account the TFSA is a gift offered by the Canadian government to encourage
Canadians to invest in the long term but unfortunately most Canadians don't use
their TFSA to its full potential and they only use their TFSA as a fancy
savings account with a savings account you give your money to a bank and they
pay you a very small interest rate of around 2% every year this 2% interest
will not earn you any long-term wealth because this money is losing around 2%
value every year due to inflation so your money sitting in a savings account
will essentially be breaking even as I talked about in my past video on the
four steps to become wealthy a savings account is a great way to protect your
money because you're guaranteed to make at least a very very small profit you
can't lose money in a savings account but to generate long-term wealth using a
savings account in your TFSA is a waste of your limited contribution room
a savings account will only earn you 2% income and so you would barely be paying
any taxes on this income anyway the income you earn with investments like
stocks and ETFs far surpass the income you earn on a savings account and so the
taxes you would be paying on these investments are also much higher that's
why if you hold these investments in a TFSA you gain a much greater tax benefit
than you would if you just held a savings account in your TFSA
stick around to the end of this video where I'll share my strategy for what
kind of investments to hold in your TFSA to maximize your tax-free
growth the TFSA is an extremely flexible program but it still comes with
a few rules to follow there is a limited amount that you can contribute to your
TFSA if there wasn't that everyone would just invest all of their money in
their TFSA and never pay any taxes this contribution limit does not depend on
your income as it does with the RRSP it only depends on your age as soon as you
turn 18 you can start contributing to your TFSA and you gain
additional contribution room on January 1st of each new year
currently everyone gains $6,000 of TFSA contribution room each year but this
annual amount changes year after year when the TFSA first started back in
2009 the annual contribution increase was $5,000 a year until 2012
then it was increased to $5500 and then it was $10,000 for one year in 2015
currently in 2019 and 2020 the TFSA contribution limit increase was $6,000
and so we will most likely see the same increase of $6,000
in 2021 unused contribution room gets carried forward in future years so
don't worry about losing this room if you can't fill up your TFSA this year if
you don't want to calculate your contribution room by hand use my handy
table to find out the maximum contribution room you have based on your
age in the year 2020 if you were born in the year 1991 or earlier meaning you
will be 29 or older this year then your total available TFSA contribution room
is sixty nine thousand five hundred dollars that means that if you have
never added money to your TFSA yet you are allowed to put this full amount
sixty nine thousand five hundred dollars into your TFSA account in the year 2020
if you were born in 1996 meaning that you are turning twenty four
this year your total TFSA contribution room is
forty four thousand dollars if you were born in 2002 then you are turning 18
this year and so you can only put six thousand dollars into your TFSA in
2020 all these numbers in this table are the total contribution limit you have
assuming that you have never put any money into your table say but what if
you have? let's say I was born in 1996 and so my total TFSA
contribution limit is forty four thousand dollars well let's say that two
years ago I invested ten thousand dollars into my TFSA account whenever I
make a TFSA contribution that money is taken away from my total available room
so in 2020 I only have thirty four thousand dollars remaining in TFSA
room one of the great things about the TFSA is that I can withdraw my money
at any time and I won't pay any taxes or fees this is very different from the
RRSP even better when I make a withdrawal for my tea for say I don't
lose a contribution room forever in the next year I'm able to
regain whatever dollar amount that I withdrew this year. contributions in
past years reduce my available room but withdrawals in past years increase my
current contribution room let's come back to my example where I had forty-four
thousand dollars of total contribution room but in 2018 I put in ten thousand
dollars and so I only have thirty four thousand dollars of available
contribution room let's say that last year in 2019 I withdrew four thousand
dollars to pay for school as soon as the New Year hit January first 2020 my TFSA
contribution room immediately increased by this $4,000 withdrawal amount and so
in 2020 my total available contribution room is higher at $38,000 here's another
way to look at it my total available contribution room for 2020 equals my
total lifetime contribution limit minus contributions I made in previous years
plus withdrawals I made in previous years so my available contribution room
in 2020 will be forty-four thousand dollars - ten thousand dollars my
previous contributions plus four thousand dollars my previous withdrawals
giving me thirty eight thousand dollars but this is a very important point when
I withdraw money for my TFSA I don't regain that contribution room
until next year so let's say that in 2020 I have maxed out my TFSA room I
can't put any more money into my TFSA this year but let's say that I need
to withdraw $10,000 to help make a down payment
after I withdraw this money my TFSA is still maxed act
I don't regain this $10,000 withdrawal until next year even though I took out
$10,000 from my TFSA, I cannot put a single dollar into my TFSA for the
remainder of 2020 I have to wait until January 1st 2021 as soon as the new
units I regained that $10,000 of contribution room from my withdrawal
plus I gained an additional $6,000 of contribution room because it's a new
year so in 2021 I will be able to put sixteen thousand dollars into my TFSA
and then I'll be maxed out again here's a tip if you do have to withdraw
money from your TFSA try to do it at the end of the year in December that
way you'll only have to wait one month until January to regain that
contribution room that you withdrew but if you withdraw from your TFSA in
the beginning of the year in January you have to wait a whole twelve months
before you can put that money back to your TFSA you can check your
current available TFSA contribution room by logging on to your CRA account
but the amount listed on your account is not up to date the CRA will only display
your available TFSA contribution room up until December 31st of the previous year
and once the new year hits it takes them over two months in March to calculate
and confirm this amount so don't rely on the amount that you see on your account
it is extremely important to keep track of every contribution and withdrawal you
make from your TFSA the government will only do this for you
once a year during tax season for the rest of the year the responsibility is
on you to make sure that you don't over contribute because if you do the
penalties are severe if you over contribute to your TFSA you will pay a
penalty of 1% every single month on the excess amount above your available room
if I forgot to keep track to my TFSA contributions and I added $10,000 after
I was already maxed out I would be charged 1% of this $10,000 so 100
dollars every single month until I withdraw this excess amount if I'm not
careful this will cost me 12% a year that's almost as bad as credit card debt
so make sure you make a record of every time you put money in or take money out
of your TFSA you are allowed to open up multiple TFSA accounts with different
financial institutions you can open up a TFSA savings account with scotia bank
to hold your cash and at the same time you can open up a TFSA investing
account with Questrade to hold your stocks and ETFs there is no limit on the
number of TFSA accounts you can have but the total amount you've contributed to
all of your TFSA accounts cannot exceed your TFSA contribution limit let's
talk about the real power of the TFSA investing any income you earned inside
your TFSA is tax-free so whenever you gain money through dividend, DRIPs
interest or capital gains you keep all of it even better any income you earn
inside your TFSA does not count as a contribution every time you earn a
dividend this money was earned inside your TFSA so it doesn't take away
from your available contribution room your total value inside your TFSA
can and should exceed your total contribution limit because your
investments are growing let's go back to my example if I have twenty four years
old and I have maxed out my TFSA that means I have contributed forty-four
thousand dollars into my TFSA but in my investments
to $100,000 in value that's totally fine I'm not breaking any rules my only limit
was the amount of money I could put in the forty four thousand dollars but my
investments grew by fifty six thousand dollars and I don't pay any taxes on the
fifty six thousand dollars of income if these same investments were outside of
the TFSA I would have to pay a huge chunk of these profits in taxes but in a
TFSA I'm totally safe there is no limit on how much money can be in your
TFSA there's just a limit on how much money you can initially put in if I just
held cash my money would never grow and so the maximum amount I would ever have
my TFSA is forty four thousand but with the power of investing I now have a
TFSA over twice that size and here's something really cool if I decide
to withdraw this $100,000 out of my TFSA I would not pay any taxes on
this money and next year on January 1st this $100,000 withdrawal will be added
to my available contribution room plus I would gain an additional $6,000 of
available room because it's a new year so on January 1st I can now put one
hundred and six thousand dollars into my TFSA this is more than double what
my total contribution limit should be but be careful this withdrawal room can
also work against you let's say I put in forty four thousand dollars into my TFSA
and I decide to invest it in risky penny stocks and my stocks crashed
over the course of a few months my forty four thousand dollar investment is now
only worth ten thousand dollars if I decide to sell these stocks and
withdrawal this ten thousand dollars out of my TFSA I have now permanently
lost contribution room next year when January hits I cannot put in forty four
thousand dollars back into my TFSA I can only put in the amount that
I withdrew which is ten thousand dollars plus the standard six thousand dollars I
get every new year so now my TFSA is maxed out with only sixteen thousand
dollars in it I have permanently lost TFSA contribution room and I will never
get it back my TFSA is always going to be smaller than other people my
age sure I can still invest outside of my TFSA but I will always be
paying taxes on this income while my neighbors are enjoying tax-free growth
inside their larger TFSAs the moral of the story is do not invest in risky
penny stocks inside your team to say I'm against penny stocks in general but if
you must keep any risky investments in a
non-registered account your TFSA should be reserved for secure and established
blue chip stocks and ETFs and if your stocks inside your TFSA are currently
down don't sell them wait for them to bounce back as soon as you sell them
those losses have become realized and now you've permanently lost that TFSA
room so now for the fun part what kind of investments should you hold in your
team to say any type of investment will benefit from the tax sheltered nature of
a TFSA but since your contribution room is limited you want to reserve it for
assets which will gain the most benefit do not use your TFSA as a savings
account you'll only be earning about 2% and interest income so there would it be
very much taxes anyway to be saved also I wouldn't keep growth stocks in your
TFSA. A growth stock doesn't pay you dividends you buy it with the hope that
it will increase in value over time and then you sell it for a profit but until
you sell that growth stock you haven't made any money so if you hold on to a
growth stock for 20 years you have zero income over those 20 years and so you
pay zero taxes over that time holding a growth stock in your TFSA is wasting the
tax-free benefit because you're not paying any taxes anyway during those
years once you do sell your growth stock you have now made a profit and you do
have to pay taxes on this profit this is called a capital gains tax capital gains
are the most tax efficient form of income especially as you get up to the
higher tax brackets in fact capital gains are taxed at only half the tax
rate of your employment income if you held the growth stock in your TFSA
sure you would never pay any taxes on these capital gains when you sell
whereas outside in a non-registered account you would have to pay some taxes
on these capital gains when you sell your stock but capital gains are taxed
at a lower rate than all other investments especially when you get to
higher incomes so if you have to pay taxes on something you might as well pay
taxes on capital gains which have the lowest tax rate and you won't be paying
any of these taxes for years and years until you actually decide to sell that
stock I'll be making a whole video on how different forms of investments are
taxed so stay tuned for that okay so what should you hold in your TFSA?
income producing dividend stocks and ETFs dividend stocks and ETS
will pay you regular income through dividends every month or every quarter
these dividends are considered taxable income
even if you use a DRIP to earn extra shares instead of cash this continuous
income will compound your investments allowing them to grow exponentially but
if you slap on a 20% tax on every dividend you get that will constantly
slow you down that's why if you hold high-yield dividend stocks and ETFs in
your TFSA you will never pay taxes on these dividends and this will allow you
to maximize this exponential growth check out my past videos on my favorite
Canadian dividend stocks and my favorite Canadian dividend ETF all of these are
great options to invest in your TFSA to get tax-free passive income this is
very important the TFSA will only protect your dividends from Canadian investments
if you hold US stocks and US ETF you will be charged on 15% u.s. withholding
tax on these dividends even in a TFSA the only way to avoid paying this
withholding tax on US dividends is to hold these u.s. investments in an RRSP
by the US canada tax treaty an RRSP will protect you from taxes on US dividends
but a TFSA will not I'll be making a whole video on US withholding taxes and
on the RRSP but the bottom line is this only hold Canadian investments in your
TFSA your us investments should be held in your RRSP finally when choosing
Canadian dividend stocks for your TFSA I would place extra emphasis on
REITs: real estate investment trusts. Outside of a TFSA REITs are taxed more
heavily than regular dividend stocks eligible Canadian dividends are taxed at
a much lower tax rate than regular income especially for those lower tax
brackets if I'm in the 40% tax bracket I only pay about 25% taxes on
eligible dividends because of the dividend tax credits which the
government created to encourage Canadians to invest
however REITs don't pay eligible dividends they pay distributions
distributions are a combination of the rent and capital gains earned by these
real estate properties these distributions kind of act like dividends
because they provide consistent passive income but they are taxed differently
distributions from REITs are not eligible for the dividend tax credits so
if I'm in the 40% tax bracket I'm going to be paying almost 40% taxes on the
income I earned from these REITs compared
to the 25% taxes I paid on the income earned from dividend stocks because
REITs are taxed more heavily than regular different stocks it's better to
hold REITs in your TFSA since they'll gain an even greater tax benefit so
there you have it that's everything you need to know about the TFSA the TFSA
allows Canadians to avoid paying taxes on their investment income there is a
maximum amount you are able to contribute to your TFSA based on
your age this contribution limit increases every year, every contribution
you make reduces your available room and every withdrawal you make increases your
available room in the next year your TFSA should be reserved for high-yield
Canadian dividend stocks and ETFs especially REITs your growth stocks
should be held outside of your TFSA and your u.s. investments should be held
in your RRSP to avoid withholding taxes thanks for watching guys and be sure to
LIKE comment and subscribe if you found this video helpful
every thumbs up in comment really helps me build this channel and hit that Bell
icon to be notified of my new videos every week and if you'd like to follow
me on Instagram or Facebook @CanadianTShirt click the link in the box below
or put the links on my home page and be sure to tune in to my next video where
I'll be breaking down how to buy and sell US stocks on Questrade thanks
everyone and I'll see you guys on the next episode of the Canadian in a T-shirt
bye guys