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Tiana Mah and her husband Mark Patterson used the money in their TFSA for bathroom, flooring and other renos in their home in Vancouver.


When Tiana Mah and her husband renovated their newly purchased home in Vancouver's Cambie Village area in May, they didn't apply for a line of credit or dip into a chequing account.

That would have been so 2008.

Instead, they paid for the refinished oak floors, the new bathroom and wiring with money from the new rainy-day fund Canadians are learning to tap: a Tax-Free Savings Account.

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"I admit that when I opened it up, I didn't know that much about it," said the 30-year old, a communications specialist for the Certified Management Accountants of British Columbia.

Finance Minister Jim Flaherty promised an evolution in Canadian spending habits when he created TFSAs in his 2008 budget. He appears to be getting one.

Even as the Bank of Canada and economists express concern that rock-bottom interest rates may cause people to take on more debt than they can afford, new data suggest TFSAs have jolted Canadians into saving at a faster pace than Finance officials expected.

And while the financial crisis has shown how seemingly innocuous policy decisions can go horribly wrong, Mr. Flaherty's surprise move two years ago to encourage more savings is already paying dividends.

"I am impressed by the take-up," said Jack Mintz, the Palmer Chair of Public Policy at the University of Calgary who has advised the federal and Ontario governments on tax policy. "It is good news in the sense that Canadians are acting to save for the future. It is important given long run demographic trends."

Between Jan. 1, when the program went into effect, and the end of June, Ms. Mah was one of about 3.6 million people to set up a TFSA, stockpiling wealth of $12.4-billion, according to an analysis by Toronto-based financial research firm Investor Economics and pollster Ipsos Reid.

That's in contrast to Canada's long-standing tax shelter savings product, the Registered Retirement Savings Plan. While about 6.2 million people hold RRSPs, the rate of growth of Canada's premier savings program has slowed markedly since its inception in 1957.

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Canadians created an average of 69,247 RRSPs a year between 1993, when Statistics Canada began tracking contributions, and 2008, when the number of plans decreased by 113,580 from 2007.

Five things you should know about TFSAs

  • You can contribute $5,000 per year from age 18 onward, and carry forward any unused room.
  • You get no tax deduction for making a contribution, as you do with an RRSP, but your savings or investment gains are not taxable.
  • By contributing even $2,500 to a TFSA every year, you could end up with almost $64,000 in 20 years at a modest average annual return of 2.5 per cent.
  • The range of eligible investments includes high-interest savings accounts, guaranteed investment certificates, mutual funds, stocks and bonds.
  • You need a self-directed TFSA from an investment dealer to have the fullest range of investment choices.

- Rob Carrick

Within a decade, assets in TFSAs will be worth $160-billion, according to Carlos Cardone, a senior consultant at Investor Economics. By comparison, RRSP assets were worth $33.3-billion in 2008, according to Statscan's latest data, released earlier this week.

The introduction of the TFSA program has largely coincided with a global rally in stock markets, generating a tax-free windfall that Ms. Mah and others are choosing to spend exactly when the country's recessionary economy needs it. But as the Investor Economics study shows, the program also appears to be encouraging households to set aside more of their income. That's encouraging for the legions of economists who worry about the future costs of caring for the aging Baby Boom generation.

The allure of a TFSA is in the name: tax-free. At first blush, they are also simple. Anyone 18 years or older can visit a financial institution, open an account, put $5,000 into it each year and withdraw the money without paying tax at any time.

"As they start to grow, I think they will become the predominant way that most Canadians will save - for anything," says Jamie Golombek, managing director of tax and estate planning at CIBC Private Wealth Management. "You are talking about zero tax. What could be better than that?"

At this point, he added, the $5,000 annual limit makes them too small to have much impact but in 10 years, they could be sheltering upwards of $50,000.

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TFSAs weren't "on the table," as Mr. Flaherty sought advice in the months ahead of the 2008 budget, which was presented on Feb. 26, said Ian Russell, president of the Investment Industry Association of Canada.

But, according to people familiar with his thinking at the time, Mr. Flaherty was moved by arguments that something should be done to bolster Canadians' savings habits. He asked Finance officials to give him options, and he settled on the TFSA.

Banks, brokerages and other players in the investment industry were caught off guard by the announcement, and their original response was lukewarm.

TFSAs make an already complicated tax code even more so, and administrative costs outweigh the revenue the program generates for financial institutions.

There also was doubt that the $5,000 cap on annual contributions would be enough to attract much interest - a grumble that has proven to be too pessimistic.

"We just thought they wouldn't be all that popular," said Mr. Russell. "But as soon as they got out there, I think everybody started to recognize that these were potentially powerful savings vehicles."

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The rapidity of Canadians' embrace of TFSAs is raising questions about whether savers are taking full advantage of the program, or even setting up accounts when they would be better off putting their money elsewhere.

Many people, some unwittingly, have ended up with TFSAs that are variations of a savings account or a GIC, which pay minimal interest, says personal finance author Gordon Pape, whose book The Ultimate TFSA Guide, is coming out in December.

"That may or may not be what you want," said Mr. Pape. "Certainly, if you want to maximize the returns on a TFSA you should have a self-directed plan set up through a brokerage firm."

The majority of TFSA assets held by retail banks are in savings accounts. A big part of that has to do with timing. When TFSAs were launched, the collapse of the stock market had Canadians scrambling to find safe places to park their money, like high-interest savings accounts.

"Going forward, if investors return to riskier assets like equity funds or mutual funds, we think there is a significant opportunity for mutual funds in TFSA accounts," said Carlos Cardone, a senior consultant at Investor Economics.

There is also debate in the financial community about who should use a TSFA. Polls have shown that Canadians are using them as a rainy-day saving fund, to store money for retirement or their children's education, and as a place to shelter savings from tax.

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"For the over-50 crowd, it has become a fundamental cornerstone of their long-term retirement planning," said Kurt Rosentreter, a senior financial adviser at Manulife Securities.

But Mr. Rosentreter rarely recommends TSFAs for younger Canadians, who he says are struggling to pay down debt, as well as maximize RRSPs and RESPs. "Their money is being pulled in many directions, so the TFSA is last in a long list of priorities. They won't get to them until their debt levels fall and their cash flow improves."

Mr. Pape says many Canadians with limited funds are struggling with the TFSA versus RRSP debate. He suggests they make an RRSP contribution, then take the refund and put it into a TFSA.

Ms. Mah, meanwhile, has already started to save for next year's TFSA contribution. Like most Canadians, she says she is still learning about how to best use her TFSA and is looking for better tax saving uses for her money.

Until then, she plans to use the money as a back-up for life's little emergencies. "It makes sense for where I am in my life."

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