Tax Free Savings Accounts became a reality in Canada with the Conservative Government and became available in 2009. This allows Canadians to invest up to $5,000 and income generated from the account is tax free, even when withdrawn.
How is this better than RRSPs?
Well, with the shaky economy and the decline of stock markets, retirement investments, and the anticipated extended recession, the RRSPs are not a great option right at the moment. While money put into RRSPs will lower taxable income, and provide a tax deduction, the TFSA provides security. It is not affected by turns in the stock market and is liquid cash.
TFSAs provide no upfront tax deduction, but it does provide a perfect emergency fund that is sheltered at the moment from taxes. It allows you direct access to your funds, without having to worry about incurring taxes when withdrawing the money. Even with the $5,000 limit on deposits, it is $5,000 per year. Any unused portion in this fiscal year can be carried forward and used in the next year.
It is true that an RRSP will reduce your overall tax burden, but withdrawing money from this type of retirement fund is subject to strict rules and penalties. Any money that comes from the fund is subject to a major tax hit.
There has to be a balance approach to investing. Consumers should have a balanced portfolio that combine RRSPs and TFSA. Use RRSPs to reduce the tax burden and TFSAs to save for that major purchase.
