The Tax Free Savings Account (TFSA) has now entered it eighth year. The contribution limits have been $5,000 each year between 2009 and 2012, $5,500 in 2013 and 2014, $10,000 in 2015 and $5,500 in each of the last two years.
Cumulatively, you could have now contributed $52,000.
Over the last seven years, we have kept our approach to the TFSA simple and consistent. Our current model TFSA portfolio holds five blue chip, dividend paying common shares of Canadian companies.
We have been asked a lot of questions about our approach:
Isn’t it a good idea to have foreign stocks in the TFSA?
In both an RRSP and a non-registered account, we would agree with holding foreign stocks. But foreign stocks in a TFSA can be subject to punitive withholding tax on dividend income, which becomes an absolute cost and cannot be claimed as a foreign tax credit.
Shouldn’t the TFSA be kept as cash for emergency reserves?
I’ve wished, at times, that the government had named the account “Tax Free Investment Account” to get people thinking about the account as an Investment Account rather than a Savings Account. We view the TFSA as a long term account and should be invested 100 per cent in equities, especially if the funds are not needed in the next couple of years. The only time the TFSA should be used as an emergency reserve is if you have no non-registered funds (bank or investments). Even then, one could argue that at least a portion of the $52,000 of contributions should be invested rather than 100 per cent in a savings account earning minimal interest. We recommend not being too conservative.
Why not invest in higher risk stocks rather than blue chip common shares?
Regardless of the type of investment account, the type of investments should always reflect your overall risk tolerance. If you would not normally purchase small capitalized companies, venture capital, or riskier holdings, then adding these types of holdings in a TFSA would be unsuitable. Adding to this conversation, we would highlight that although gains are not taxed, one should also look at the other side. If you incur a loss on a holding within a TFSA, you are not able to claim it and the room lost is not replenished. As a result, we recommend avoiding investments that are too risky.
Can I have more than one TFSA?
Yes. But, we have always cautioned people to only have one TFSA account. Having more than one TFSA immediately increases a person’s probability of an over contribution. Different financial institutions would not know that you did a contribution elsewhere unless you advised them. Over contributions to a TFSA can result in penalties. Having one account also makes it easier to keep track of contributions and withdrawals.
Should I go for the advertised special on the TFSA?
Early each year we see advertisements for short term teaser rates on new GIC purchases or cash deposits. These short term rates soon end and the funds ultimately are not positioned in the blue chip common shares. What ends up happening is that an investor has small balances at different places, none of which are managed for the big picture. Trying to consolidate these accounts in the future results in transfer costs, which immediately eat away on any incentive income earned. The best route is to have one account with a focused strategy.
How do you invest your TFSA?
Some investors may invest their TFSA into an exchange traded fund or mutual fund to obtain better diversification. Our approach was to pick individual common shares to keep the cost of investing to a minimum. We also ensured that the holdings in the TFSA complimented the other holdings in all other accounts. In 2009, clients typically held one infrastructure stock to get exposure to the energy sector. In 2010, we added a bank stock to obtain exposure to financials. In 2011, we add to these same two holdings and rebalanced. In 2012, we added a utility stock and rebalanced all three holdings to equalize all three positions. In 2013, we added to these same three holdings and ensured the dividend reinvestment plan (DRIP) was set up. In 2014, we added a telecommunications company and rebalanced all four holdings to equalize the position size. We set up the DRIP on the telecommunications company. In 2015 we added to these same four holdings and rebalanced the positions to be equalized. In 2016, we added a railway stock to obtain exposure to industrials. In 2017, we are adding to these existing five names and equalizing the position sizes.
Kevin Greenard CPA CA FMA CFP CIM is a Portfolio Manager and Director, Wealth Management with The Greenard Group at Scotia Wealth Management in Victoria. His column appears every week in the TC. Call 250.389.2138. greenardgroup.com