The TFSA was first put into place in Canada in 2009, and it has been around since then. People in Canada have reaped the benefits of tax-free savings accounts (TFSAs) in large numbers. Canadians who hold foreign investments in a TFSA, on the other hand, may be subject to tax consequences.
Let’s take a look at Canadian (non-U.S.) clients and how their TFSA investments may be affected by the tax.
Foreign investments can be held in a TFSA, and dividends paid to the account are tax-free in Canada. However, there is a withholding tax.
Now, let’s take a look at some issues that U.S. citizens can face.
People in the U.S. must pay income taxes on the account’s income and capital gains on a yearly basis because a TFSA isn’t deemed tax-free in the United States.
You can purchase and hold foreign stocks in a TFSA if they are listed on an approved stock market. This designation was introduced by the finance minister. There are currently 47 designated stock exchanges.
Twelve (12) of these are stock exchanges in the United States, including the NASDAQ and the NYSE.
Also, the Canada Revenue Agency (CRA) allows you to keep a wide range of qualified investments in a TFSA. These include corporate shares and mutual funds, as well as bonds, REITs, and many more.
So, Canadians can own any foreign security that is traded on certain stock exchanges, except for a few derivatives.
Is it necessary to pay taxes on US stocks held in a TFSA?
According to the CRA, there are no distinctions between Canadian securities and US stocks in your tax-free savings account.
The CRA does not tax any returns earned on U.S. stocks held in a TFSA, including dividends, interest, and capital gains.
Gains in TFSAs, with a few exceptions, are completely tax-free both while in the account and when withdrawn.
However, depending on the type of return you receive on the US stocks in your TFSA, you may be required to pay some US withholding tax.
Canadians can give publicity to US stocks in a variety of ways. Among the most well-known are:
When it comes to RRSPs, how you choose to invest in US stocks determines whether or not you must pay the withholding tax. But there is no difference between TFSA-registered and non-registered accounts.
Also, note that when you file your income tax returns, the U.S. withholding taxes are paid in non-registered accounts by claiming the foreign tax credit that can also be recovered. Due to this, the tax will be 0%.
Unfortunately, you will not be able to use the foreign tax credit to balance the withholding tax paid on your TFSA. Foreign withholding taxes are treated the same way in any of your registered accounts, including RRSPs and RESPs.
Assuming you have the required documents, the following are the tax consequences of owning US stock in a TFSA:
To minimise the tax impact, you should invest in non-dividend-paying or growth stocks in a TFSA. Keep dividend stocks in non-registered accounts, where you can use the foreign tax credit to pay for some of the tax you’ll pay.
If you’re utilising an RRSP, it’s preferable to hold US stocks directly or through US-listed ETFs.
A tax-free savings account is one of the best places to keep your money safe and sound. The money you earn within the account is tax-free if it comes from dividends or capital gains. If you’re a long-term investor, this can be a terrific way to build your portfolio over time without having to worry about paying taxes when you withdraw the funds.
You may put any stock in your TFSA as long as it trades on a major market like the TSX, NASDAQ, or NYSE.
There are numerous approved exchanges where you can purchase equities to trade on.
You’re not confined to simply Canadian or even North American equities.
But there is still a question that arises. If you’re earning dividends, though, the decision to include U.S. equities gets a little more tricky. Because U.S.-based stocks pay a dividend, the IRS will apply a withholding tax of up to 30% on your dividend stocks. This rate can be reduced to 15% by completing a tax form such as W-8BEN or W-9.
However, this is money that you will not be able to pay back because it is not deductible on your tax return.
If you want to invest your money in growing stocks that do not pay dividends, such as Amazon, that is most likely an investment you should make in your TFSA.
If you’re mainly seeking high returns, an ETF like the BMO NASDAQ 100 Equity Hedged to CAD Index ETF could be a good choice (TSX: ZQQ).
It doesn’t just include a top stock like Amazon, but it also includes all of the finest NASDAQ stocks, such as Apple, Microsoft, Facebook, and many others.
The fund is up over 28% year to date, which is far better than the returns of NASDAQ, which is around 25%.
The best investment that will be considered for your TFSA is the one that will help you reduce the overall tax payable by you on your whole portfolio, both now and in the future.
That means you need to make a start at the top and work your way down.
Let’s start with the “what”. What is the optimum asset allocation and the financial goals that will help you achieve them?
There are some accounts that you should consider using, including TFSA, RRSP, RESP, or non-registered accounts.
Finally, choose the kind of assets you want to retain and keep track of your investment costs.
ETFs are the asset allocations that would be considered for use. It’s one of the simplest and quickest ways to put together a diversified portfolio for a fraction of the cost of individual equities.
You might even be able to acquire them without paying a commission to your brokerage. For example, Questrade and Wealthsimple Trade.
The best thing is that you won’t have to worry about rebalancing your portfolio ever again. The ETF providers automatically rebalance the ETF holdings at regular intervals.