Ross Taylor, a 52-year-old mortgage broker in Toronto, thinks savings accounts virtually guarantee low returns. “If you put your TFSA money in a savings account giving you 1%, it will take you 72 years to double your money,” says Taylor.
Taylor is a stock picker with both a non-registered account and a TFSA with TD Waterhouse, and his strategy is designed so he pays no taxes on future capital gains. He buys stocks in the non-registered account, and each January he transfers $5,000 worth of those stocks in-kind into the TFSA to hold for the long-term. For tax purposes, he has effectively sold the shares.
Any time you transfer an investment from a non-registered account to a TFSA, the Canada Revenue Agency considers it a “deemed disposition.” In other words, it’s treated as though you sold the shares, so any increase in value will be taxable as capital gains. Taylor hasn’t had any of his stocks lose their value over the long term, but if that were the case, he could sell them to offset his gains and reduce his tax bill.
Taylor’s biggest regrets? That he’s limited to $15,000, and that the TFSA wasn’t around years ago when he first started trading stocks. “My strategy isn’t for everyone,” says Taylor. “It’s high-risk, and the TFSA contribution limits are still too low to give me enough money to diversify. I only have a couple of stocks in the TFSA now.” As for returns, Taylor says his $15,000 investment is worth about $16,000 today. “I’m still waiting for my ship to come in. But I’m comfortable with my picks: anything I have in my TFSA I’m willing to hold for the long term.”
What the experts say
Heath cautions that investors must fully understand the tax implications of this strategy. “If a stock that has gone up in value is transferred to a TFSA, then tax is payable on that gain,” he explains. “The TFSA won’t shelter the gain that’s already taken place.” Once the stock is inside the TFSA, any future gains can compound tax-free.
The only way to avoid paying tax on the initial capital gain is to also claim a capital loss for the same amount: that’s why Taylor should keep his losing stocks in his taxable account. When he sells them, he can claim the loss in that year, or carry it forward and use it in the future.
If you transfer a stock in kind to a TFSA after it has gone down, Heath points out, you cannot claim the loss for tax purposes. “In order to realize the loss, you need to sell the stock outside the TFSA first,” says Heath.
You also need to be aware of the “superficial loss” rule, which is designed to prevent investors from selling a stock to claim a loss, and then buying it back right away. “If you sell a stock in a non-registered account and then buy it again immediately inside the TFSA, the loss will be denied. You have to wait at least 30 days to buy the stock back in order for the loss to be eligible.”
Lamontagne also notes that there’s a high degree of risk in holding so few stocks in a TFSA. “If one of those stocks had been RIM, then a good chunk of Taylor’s tax-sheltered room would have been lost,” says Lamontagne. “I would suggest he invest in a broad-based index fund or ETF for a few years until the TFSA room grows sufficiently to hold a well-diversified portfolio.”