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A TFSA Rule to be Aware of! June 25, 2010

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Taxpayers being assessed on "excess" TFSA contributions

According to media reports, many taxpayers have recently been advised by the CRA that they owe a penalty on an "excess Tax-Free Savings Account (TFSA) amount" for the 2009 taxation year. This penalty is the result of a rule that, apparently, was not generally understood by Canadian taxpayers who may have made a series of contributions and withdrawals in 2009.

In most cases, the excess TFSA amount would have arisen because of contributions exceeding the "TFSA contribution room" - the dollar limit for 2009 ($5,000). For example, a taxpayer may have withdrawn an amount from his/her TFSA in 2009 and contributed a similar amount to his/her TFSA before the end of 2009. Many taxpayers did not know that the withdrawal would not create new TFSA contribution room in the same calendar year; it would only reduce the amount of the previous contribution that would otherwise have triggered a penalty tax liability. The rule is that a taxpayer cannot contribute more than his/her TFSA contribution room in a given year even if withdrawals are made from the account during the year; he/she would have had to wait until 2010 to "recontribute" part or all of a 2009 withdrawal. The taxpayer in the example noted above may be faced with a 1% per month tax on the excess TFSA amount starting with the month of the "recontribution".

The CRA has published "Tax payable on excess TFSA amount, which highlights the calculation of the 1% penalty tax. The CRA may waive the penalty if an individual can establish that the excess contribution was a result of a reasonable error and the individual acts as soon as possible to withdraw any remaining excess contribution. Taxpayers who receive letters from the CRA advising them of a penalty should immediately assess their particular circumstances in light of this potential waiver.