In Singh v. Canada, Susie Singh placed money from the sale of her home in her tax-free savings account (TFSA) in 2015. In 2018, Singh learned that she owed taxes due to overcontributions to her account and applied for relief from those taxes in 2019 twice. She was denied both times. In 2022, Singh received a judicial review in which the court determined that the Canada Revenue Agency (CRA) was correct in denying relief. This decision has raised many questions for Canadian citizens, particularly when it comes to taxes, penalties, and contributions. If you have been notified that you owe TFSA penalties, consider contacting an experienced tax lawyer with Jeremy Scott Law by calling (902) 403-7201 to learn more about your legal options.
What Is the TFSA in Canada?
A TFSA is a tax-free savings account available to individuals 18 years or older in Canada. Opening a TFSA is an option for individuals with valid social insurance numbers (SIN) to set aside money tax-free during their lifetime. The contributions are not deductible for tax purposes. Amounts contributed and income earned are generally tax-free, even when withdrawn from the account. TFSAs are issued by banks, credit unions, insurance companies and trust companies. The following three types of TFSAs are available:
- Annuity contract
- Arrangement in trust
A penalty is generally assessed for overcontributions or non-qualified investments to a TFSA in Canada. The penalty taxed depends on the reason the taxpayer must pay and the amount of time the contribution or investment is in the account.
How Does TFSA Get Reported to CRA?
Taxpayers do not report their TFSA contributions on their tax returns. Instead, they are expected to keep personal records, including amounts and dates, of their contributions to these accounts. TFSA issuers are required to electronically send a TFSA record for each year to the CRA for each individual who has a TFSA. These records must be sent by the last day of February of the following year.
What Are the Penalties for Overcontribution to TFSA?
When a Canadian resident becomes eligible to open a TFSA, he or she is given a contribution room, which indicates how much the owner can contribute to the account. This contribution room grows each year, allowing individuals to contribute more to their accounts with each passing year. Withdrawals and unused contribution room from previous years can change this amount, so it is important to confirm the contribution room before making each new contribution.
If an individual overcontributes to a TFSA, there is a monthly tax penalty of 1 percent applied to the overage amount only. This penalty also applies if the excess contribution is in the account for only a few days of the month. An account holder who is penalized for overcontributing can apply for relief by removing the excess and any income that could reasonably be attributed to that excess and proving that the overcontribution was a reasonable error.
What Is the Penalty for Non-Qualified Investments in TFSA?
Some investments can be placed in a TFSA, and others cannot. If an individual has prohibited or non-qualified investments in a TFSA, he or she will be charged TFSA penalties. If you have been notified that you need to pay a penalty, a knowledgeable lawyer from Jeremy Scott Law may be able to assist you.
The Canada Revenue Agency typically allows the same investments in a TFSA as in a registered retirement savings plan (RRSP). These include:
- Mutual funds
- Certain shares of small business corporations
- Guaranteed investment certificates
- Securities listed on a designated stock exchange
Prohibited or Non-Qualified Investments
Investments that are prohibited may include amounts such as :
- Debt of the TFSA holder.
- Debt or interest in a corporation, trust, or partnership if that interest is significant (more than 10 percent).
Non-qualified investments are any property that is not a qualified investment. Under certain conditions, qualified or non-prohibited investments may convert to non-qualified or prohibited.
Penalties for Non-Qualified or Prohibited Investments
If an individual has non-qualified or prohibited investments in a TFSA, the penalty is a tax of 50 percent of the investment’s fair market value, according to Canadian Federal Statutes. The fair market value is calculated and the tax applied based on the date the TFSA first holds the investment. For investments that were qualified or non-prohibited but became non-qualified or prohibited after they were in the TFSA, tax only applies from the point at which they became prohibited or non-qualified.
Individuals can recover the taxed amount if they dispose of the unapproved investment by the end of the next calendar year. They will also need to be able to demonstrate that they did not know or could not have known that the investment was non-qualified or prohibited.
What Other Penalties Are There for TFSA in Canada?
In addition to overcontributing or holding prohibited or non-qualified investments, there are other occasions when a TFSA holder may need to pay TFSA penalties. These instances can include:
- Business income earned in TFSA: Income earned from a taxpayer conducting business within a TFSA will be taxed as business income. The TFSA will lose its tax-free nature, and the income will be taxed at the full rate rather than the reduced 50-percent capital gains tax rate.
- Non-residents contribution tax: Non-residents can hold and contribute to TFSAs. However, they will be taxed 1 percent per month on any contributions made by the non-resident. This 1-percent monthly tax will be assessed until the contribution is withdrawn.
Is It a Tax or a Penalty?
While these charges are often referred to as penalties, that is not necessarily accurate. For example, the 1-percent monthly amounts charged for overcontributions and non-resident contributions are both considered a tax, according to the Income Tax Act.
This distinction is important because penalties are only assessed on taxes. The distinction also matters because, when applying for taxpayer relief, the relief will only apply to penalties and interest, not to the original tax.
Contact a Tax Lawyer for Help with Your TFSA Penalties Today
If you have been charged TFSA penalties or taxes, you may be able to apply for taxpayer relief and reduce or eliminate those penalties. While the court decided that the CRA acted correctly in Singh v. Canada, it is possible to object and have penalties or taxes removed in some cases. If you would like more information about objecting to and applying for relief from TFSA penalties and taxes, consider contacting a knowledgeable tax lawyer at Jeremy Scott Law by calling (902) 403-7201 to schedule a consultation today.