The Tax-Free Savings Account (TFSA) is the best tax-saving account Canadians have at their disposal. Offering the ability to grow assets and withdraw the proceeds tax-free, it’s far more flexible than an RRSP or any other registered account.
Although TFSA contribution space is fairly limited ($6,000 was added in 2020 for a $69,500 total), the account has enough room for investors to build up a sizable sum with wise investments.
It only takes around seven years to double your money at 10% a year. In a few decades, a small TFSA could grow to a truly impressive size.
At least, that’s true if you make the right investing decisions. Because in order to benefit from your TFSA, you nTFSA Users: 2 Investing Decisions you’re Bound to Regreed to realize a gain.
If you lose money in the account, a TFSA is actually a losing proposition, as TFSA losses can’t be used to offset capital gains taxes.
For most investors, opening a TFSA is a good idea most of the time. However, there are a few deadly TFSA mistakes you need to avoid committing at all costs. The following are two of the most serious.
Making overly risky plays in your TFSA
In a certain sense, TFSAs are ideal for risky investments, as their contribution space is low and they let you withdraw all your funds immediately. These features make TFSAs perfect for short-term speculative plays.
However, extremely risky, all-or-nothing plays, such as certain types of derivatives should be avoided in your TFSA. As previously mentioned, TFSA losses can’t be used to offset capital gains.
As a result, a big loss in a TFSA is a bigger loss than it would be in an ordinary brokerage account. For this reason, it’s wise to keep your risk levels in a TFSA to a moderate level.
Holding cash in your TFSA
Another big TFSA mistake is holding cash. You need to realize some type of gain in order to realize a tax benefit from your TFSA. While many TFSA cash accounts pay interest, it’s usually pretty negligible.
In order to truly realize the benefits of your TFSA, you’ll want to hold investments with some dividend and/or capital gain potential.
For this reason, index funds like the iShares S&P/TSX 60 Index Fund (TSX: XIU) can be great TFSA plays. As a highly diversified index ETF, XIU meets the moderate risk criterion mentioned previously.
However, being built on stocks, it can deliver a significant enough return to be worth holding in a TFSA.
What makes XIU a great ETF?
First, based on the TSX 60, it enjoys slight historical outperformance compared to the TSX Composite Index. Although there’s no guarantee that this will continue, it holds over a very long period.
Second, the fund has a fairly high distribution yield of 2.8%.
Finally, as a passively managed fund, it has low fees, with an MER of 0.18%.
Overall, XIU is a solid mix of value and growth potential that will reward you handsomely over the years if held in a TFSA.
