A Tax-Free Savings Account is an investment tool that allows Canadians to save and invest money with tax-free returns on savings. Like any financial tool, there are costly mistakes that you can make as an account owner which can affect the achievement of your financial goals.
As professional financial advisors in Edmonton, we have put together five (5) costly mistakes you should avoid if you want to make the most of your Tax-Free Savings Account. Before we dive in, if you need clarity or financial help, our experts are here for you! Read on to find out more about the mistakes you should avoid making with your TFSA.
Under Maximizing Contributions
Every TFSA has a maximum contribution limit to enable account owners to maximize the tax-free growth the account offers. Failing to contribute this maximum amount means you are missing out on potential tax-free growth. This is because if you forego any contribution room, you cannot carry it forward.
Maximizing your contributions allows you to benefit from compounding and allows you to take full advantage of the tax-free status of your TFSA.
The good thing is funds in your Tax-free Savings Accounts are easy to access compared to RRSPs which are more restrictive with regard to withdrawal penalties especially before your retirement.
Overcontributing to your TFSA
Contributing more than your allowed limit is one of the most critical mistakes TFSA holders make. The annual contribution limit for a TFSA as of 2023 is $6500, but it’s your first time contributing to your TFSA you may be able to take advantage of the unused contribution room from the past years.
Even though the CRA provides information about the contribution room for Canadians with TFSA, you need to keep track of your contribution room personally. Keeping track of your contribution room helps you to know the investments you’ve put in and removed so far to avoid the penalty for overcontribution.
The penalty for overcontribution is 1% of the excess amount you pay every month. If you’re not careful, this can slowly eat into your returns if it adds up. Withdrawing in one year and trying to contribute to the same year can lead to overcontribution so be sure you know the rules of your TFSA to prevent any negative results.
Refusing to Diversify your TFSA Portfolio
Tax-free savings accounts offer extensive investment options, from stocks to mutual funds, ETFs, and bonds. To maximize your returns and minimize your risks, it is important to diversify your portfolio. Putting all your investments in a single stock or sector can be detrimental and may lead to more significant losses.
As professional financial advisors in Edmonton, we always advise that you diversify your portfolio to reduce risk and increase your chance of getting more consistent results. Additionally, it is important to understand the risk that each investment carries because they are all different.
Try not to invest too carefully because this limits your growth potential and try not to invest too excitedly because this can expose you to unplanned risks. Diversification and alignment of your investments based on your financial goals and plans are necessary if you want to see positive results.
Using your TFSA for Regular Short-Term Savings
Even though your TFSA is a savings account, using it for the purpose of storing cash can be a big mistake. The real advantage of a TFSA is its ability to cover your investment from taxes, so instead of putting in low-interest savings, you should consider investing in assets that can bring in higher returns. If you plan to save for a car or vacation in your TFSA, it might be better if you use a normal high-interest savings account or a Canadian Guaranteed Investment Certificate.
TFSAs are better suited for long-term savings, like when saving for your retirement or a house. By withdrawing the money from your TFSA before your saving goals are met, you could miss out on some tax-free returns.
If you’re unsure about where to start, speak to a certified financial planner in Alberta. They will help you to understand the balance between taking risks and rewards.
Not Reinvesting Withdrawals
Compared to an RRSP (Registered Retirement Savings Plan), withdrawals from a Tax-free Savings account do not affect your room for contribution. But, if you make a withdrawal, the amount of money you removed will not be added to your contribution room until the next year.
In order to maximize your TFSAs potential for growth, you must consider re-depositing the funds you withdrew as soon as the contribution room opens in the following calendar year.
A Tax-free Savings Account is an important financial tool Canadians should take advantage of to enjoy tax-free investment returns and savings. Working with a financial planner in Alberta to regularly review your TFSA strategy and contribution limits will always keep you one step ahead. Don’t forget that as time progresses, rules and regulations may be tweaked, and you might not know anything about it, but with a financial advisor, you’ll always be in the know.
Before making significant financial decisions like this, it's advisable to consult a professional financial advisor, like the ones at DeHaan Private Wealth. This is so that they can guide you in making the right decisions based on current financial trends and their expertise.
At DeHaan Private Wealth, you are our priority, so do not hesitate to contact us today for a free consultation; let us help make your journey easy.