Some Tax-Free Savings Account (TFSA) users might not know that there’s a TFSA return. In most TFSA situations, you don’t incur tax payables whatsoever. However, the Canada Revenue Agency (CRA) requires users to file a TFSA return by June 30 of every year in certain circumstances.
TFSA contributions are not deductible for income tax purposes. However, your contributions and all interest, capital gains, and investment income earned in the account are generally tax-free. Even withdrawals, regardless of amount, are not subject to tax.
The advice to users is not to commit three mistakes that would lead to one or more taxes with respect to a TFSA. All are costly blunders. Hence, it’s always the user’s lookout to be free of the CRA.
The CRA set annual TFSA limits, and the rule is crystal clear. Don’t over-contribute. If you do, the penalty tax is 1% of the excess contribution per month. The contribution limit for 2021 is $6,000. You can’t go beyond it unless you have an unused contribution room from 2020. The sum of both becomes the available contribution room.
2. Foreign investments
Since Canada’s Income Tax Act no longer imposes a cap on foreign investments in a TFSA, users can diversify to include international stocks. The CRA allows it as long as your chosen stock trades on major stock exchanges. Unfortunately, it’s not the best strategy if tax is your concern.
The complication arises when you collect dividends. There’s a corresponding 15% withholding tax on foreign dividends. Furthermore, the money isn’t recoverable because it’s also not deductible on your tax return. You’ll not realize the desired income from a high-yield foreign dividend stock.
3. Day trading
Don’t toy with the idea to buy and sell stocks in your TFSA to make quick bucks or derive outsized gains. Frequent trading is what day traders do. But the CRA strictly prohibits users from carrying on a business in their TFSAs. If the tax agency catches you during audits, it will treat your income as business income, and therefore, taxable. The CRA sometimes charges violators in court.
Rich enterprising legacy
The North West Company (TSX:NWC) trades only on the TSX, but it packs a mean dividend yield. Its business model is likewise recession-resistant and could endure economic downturns. This $1.71 billion multinational grocery and retail company rule in underserved rural communities and urban neighborhood markets.
It operates a near-monopoly in the hard-to-reach areas in Canada. It also caters to customers in Alaska, the South Pacific, and the Caribbean. Management has yet to report the full-year 2020 results, although the showing in Q3 2020 (quarter ended October 31, 2020) was already stellar.
On record, the North West Company is one of the longest continuing retail enterprises in the world. It has built a rich enterprising legacy that dates back to 1668. Besides adapting its product mix to each market, the company has the logistics expertise to move the products.
You can purchase this consumer-defensive stock today at $35.14 per share. With a dividend offer of 4.16%, you can boost your tax-free income.
Penalty taxes are pointless expenses, especially in a TFSA. The CRA won’t hound users who avoid the three mistakes. Pick the right dividend stock and let your money grow the tax-free way.
Speaking of three mistakes TFSA users must avoid so as not to pay taxes to the CRA...
Motley Fool Canada's market-beating team has just released a brand-new FREE report revealing 5 "dirt cheap" stocks that you can buy today for under $49 a share.
Our team thinks these 5 stocks are critically undervalued, but more importantly, could potentially make Canadian investors who act quickly a fortune.
Don't miss out! Simply click the link below to grab your free copy and discover all 5 of these stocks now.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.
Fool contributor Christopher Liew has no position in any of the stocks mentioned.