With the federal budget approaching in April, Tax-Free Savings Accounts (TFSAs) are once again making news headlines. During the 2011 election, the Conservatives promised to double the TFSA contribution limit once the federal deficit was eliminated. Despite the sudden drop in the price of oil, the Tories are still expected to balance the books in time for April’s federal budget – but it is unclear whether funds are still available for TFSAs.
Much like the matter of income splitting – another key election promise the Tories have fulfilled – the issue of doubling TFSA room is polarizing. Some are in favour of it, while others claim it’s a tax break that will mostly benefit the rich.
Who Benefits Most from Doubling the TFSA Contribution Limit?
Would doubling the contribution limit only affect the wealthy? That’s the major concern of social policy think tanks like the Broadbent Institute and C.D. Howe Institute. Even Jonathan Rhys Kesselman and Finn Poschmann, the two individuals who co-authored a report back in 2001 that laid the foundations for the TFSA, can’t even agree.
Unlike the RRSP, the TFSA contribution limit isn’t based on how much you earn. If the Tories doubled the contribution limit, anyone who qualifies for the TFSA would be able to contribute up to $11,000 per year (regardless of income). Whether you’re a cashier at a supermarket or CEO, you’d be able to contribute the same amount.
While this may seem fair on the surface, who do you think would be maximizing their TFSA contributions? Would it be the cashier earning minimum wage or the company CEO? I’m willing to bet the latter.
The Year’s Maximum Pensionable Earnings (YMPE) is the average annual salary earned by Canadians. In 2015, the YMPE is $53,600. If you were earning $53,600, to make the most of your TFSA, you’d have to contribute over 20 percent of your paycheque before tax. Most people can’t even afford to save 10 percent of their paycheque, as suggested in the Wealthy Barber Returns.
TFSAs Growing in Popularity
Since TFSAs were introduced in 2009, they’ve been a hit with Canadians. In 2012 contributions to the TFSA surpassed the RRSP for the first time. Canadians contributed $33.5 billion in 2012 to TFSAs compared with only $32.4 billion for RRSPs. Not only are TFSAs encouraging Canadians to save, they offer greater flexibility. While RRSPs are mostly for retirement savings, TFSAs are great for short and long-term savings goals like a vacation, car or home.
While the TFSA is more popular than the RRSP, I’m willing to wager most people will let their contribution limit balloon. Those that will benefit the most are baby boomers drawing down their retirement savings and wealthy Canadians. Jonathan Chevreau of MoneySense makes a good case in favour of doubling the TFSA. Although it will encourage Canadians to save when saving rates are near records lows, unless there are limitations put in place it won’t stop the rich from getting richer.
The Tax Consequences for Ottawa
Doubling the TFSA contribution limit is a lot like a snowball rolling down a hill. The further the snowball rolls, the bigger it gets. Similar to income splitting, doubling the TFSA could have serious tax implications for Ottawa down the road.
According to the Broadbent Institute, doubling the TFSA could cost the federal coffers $15.5 billion and $9 billion for the provinces. With millions of baby boomers leaving the workforce over the coming years, this could spell double trouble for government coffers. With fewer tax dollars collected, the government would have to max the difficult decision between raising taxes and cutting services.
Tweaking the TFSA
If the Tories go ahead and double the TFSA contribution limit, there’s nothing stopping the government from tweaking TFSA rules. With the Tories in serious danger of losing their majority government, they are more determined than ever to deliver everything in their 2011 platform to appease voters. The Tories proved they were willing to listen when they put a $2,000 limit on the Family Tax Cut to limit how much wealthy Canadians could save.
To limit how much wealthy Canadians can save, a lifetime limit on holdings has been suggested for TFSAs. Another suggestion is for TFSA withdrawals to count towards means-tested government benefits like OAS and GIS much like RRSPs. This has been criticized been because it would discourage low-income seniors from saving (the GIS claw-back is the equivalent of a 50 per cent tax rate).
Could Lower Oil Prices Prevent Doubling the TFSA?
So far we’ve ignored the elephant in the room: lower oil prices means less money in general for the federal government, which has suggested it may have to use its contingency fund to balance the books. If oil prices stay at their current level, could doubling the TFSA be on the chopping block?
If the government has to choose between income splitting and doubling the TFSA, it’s most likely to go with the status-quo. The Family Tax Cut has already been announced. The Tories could say they’re being fiscally responsible by delaying increasing the TFSA contribution limit until a later date. We’ll have to wait and see how things play out in April.
Sean Cooper is a Financial Journalist and Personal Finance Expert, living in Toronto, Ontario. He is a first-time homebuyer and landlord who aspires to be mortgage-free by age 31. Follow him on Twitter @SeanCooperWrite and read his blogs and request his writing services on his personal website: http://www.seancooperwriter.com/