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rob carrick

TFSAs have been a lottery win worth more than $66-billion for the financial industry, courtesy of avid savers like you and me.

So why are banks and investment firms letting us down so badly with the guidance they're providing on how to work these nifty but tricky savings vehicles?

The trouble with tax-free savings accounts is that people don't understand the withdrawal rules and are as a result getting hit with overcontribution tax penalties by the Canada Revenue Agency. This issue received a lot of attention in 2010 and then went quiet. The penalties continue to the tune of $22.5-million so far for the 2012 tax year.

In the past week or so, readers have contacted me to vent about tax penalties of $365 in one case and about $300 in another. In both cases, the fines came as a shock. "We found this out the hard way, and nowhere do I see anyone warning about this," a Hamilton woman wrote on behalf of a daughter who was dinged by the taxman.

CRA figures show that about 74,000 people were sent notices about TFSA over-contributions in the 2012 tax year, compared with 76,000 in 2011 and 103,000 in 2010. There were more than nine million TFSAs as of the end of 2012, so the number of people affected is not huge. Also, the CRA has waived its penalties an average of 21,000 times in the past three years for people who were able to argue they made an honest mistake and removed the amount of their excess contribution as soon as they were told about it.

Still, these accounts are doing the exact opposite of what they're supposed to for tens of thousands of people. Their TFSAs have become tax-penalty savings accounts.

TFSAs have lots of things going for them, including the marquee benefit of allowing you to earn and withdraw money tax-free. The benefit that keeps fooling people is that money withdrawn from a TFSA can be recontributed.

Here's a rule that regular TFSA contributors can use to stay safe: If you make a withdrawal, don't put the money back until the following calendar year. There's some nuance to the calculation of exactly how much and when you can pay back money you withdrew, but this rule keeps you onside (read the CRA's take on withdrawals.)

TFSAs were introduced in 2009 and, according to a Statistics Canada report issued earlier this week, 4.9 million families held almost $66-billion in them in 2012. The median TFSA value was $10,000. These are marvellous numbers – a resounding comeback to all those who think Canadians are financial slackers who won't save. And yet, we can't solve the problem of so many people misusing their TFSAs.

Individuals certainly bear some responsibility for knowing the ins and outs of their savings and investments, and the CRA could do more to see that people understand how to avoid tax penalties. But it's the financial industry that is most glaringly at fault here. It's happy to take our TFSA contributions and charge us fees and commissions to invest it. But it can't seem to distribute some basic guidance on how to use these accounts.

Accountant Mark Goodfield of Cunningham LLP said penalties could be avoided if investment advisers and front-line staff in the financial industry were trained to ask clients whether they have confirmed their TFSA contribution room with CRA, and if they have made a withdrawal in the current year. "If they asked two simple questions, all of this would disappear," he said.

A solution for online transactions would be to display a note to clients making a TFSA deposit that informs them they could face a penalty from CRA if they are re-contributing money withdrawn in the same year.

CRA's tax penalty is 1 per cent per month on the overcontributed amount. Underscoring the poor communication on this from the financial industry is the fact that it's supplying CRA with all pertinent information about your TFSA contributions. In fact, it's this reporting that the CRA uses to pursue those who make over-contributions.

The next round of overcontribution letters will go out this spring, after the April 30 tax filing deadline. Mr. Goodfield's suggested approach for getting a waiver on your penalty: "I would argue that you understood this to be an account where you could put money in and take money out."

Based on the poor information flow from banks and brokers about repaying TFSA withdrawals, who could argue?

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