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GICs in TFSAs
Did you know that guaranteed investment certificates (GICs) can be held in both registered and non-registered accounts? Non-registered accounts are your regular bank accounts, where you are taxed on the interest earned. Registered accounts, on the other hand, refer to tax-sheltered savings plans introduced by the government, including tax-free savings accounts (TFSAs).
Take a look at how TFSA-eligible GICs work.
What are TFSAs?
In 2009, the federal government introduced TFSAs to help Canadians both grow and withdraw their savings tax-free. At first, you could only contribute $5,000 per year. On January 1, 2013, the annual contribution limit was raised to $5,500. Your available contribution room carries forward to future years. For example, if you couldn’t make any contributions in 2011, that $5,000 would’ve been added to your $5,000 limit in 2012, so you could contribute up to $10,000 in 2012.
Benefits of holding GICs in TFSAs
While contributions are not tax-deductible, like with GICs in RRSPs, there are still three major benefits of holding GICs in your TFSAs:
- Your money grows tax-free. Both the interest and capital gains are tax-free.
- Your withdrawals are also tax-free. Unlike an RRSP, when you make a withdrawal from your TFSA, it is also tax-free.
- Your principal is guaranteed. Because it’s in a GIC, you know the principal will always be returned to you, so it’s a safe investment option.
Example: GIC in TFSA vs. non-registered account
Peter has $5,000 to invest and he’s trying to decide between purchasing a regular 2-year non-redeemable GIC in a non-registered account or a 2-year non-redeemable TFSA-eligible GIC. Both GICs pay 1.15%, however, he lives in Ontario and would have to pay tax at a marginal rate of 39.41% (combined federal and provincial) on interest earned in the non-registered savings account. How much will Peter save by purchasing the GIC in his TFSA instead?
Option 1: GIC held in a non-registered savings account
| Year | Beginning Principal | Interest Earned | Tax Payable | Ending Principal |
|---|---|---|---|---|
| 1 | $5,000.00 | $75.00 | $29.55 | $5,075.00 |
| 2 | $5,075.00 | $76.12 | $29.99 | $5,151.12 |
| Totals | $151.12 | $59.54 | $5,151.12 |
Option 2: GIC held in a TFSA
| Year | Beginning Principal | Interest Earned | Ending Principal |
|---|---|---|---|
| 1 | $5,000.00 | $75.00 | $5,075.00 |
| 2 | $5,075.00 | $76.12 | $5,151.12 |
| Totals | $151.12 | $5,151.12 |
Peter would be able to save an additional $91.58 ($151.12 - $59.54) because he bought the GIC held in a TFSA, since he wouldn’t have to pay tax on any of the interest earned.
TFSAs are a great vehicle for saving money. While contributions are not tax-deductible, once money has been put into the account it is free to grow and redeem tax-free. Many GIC products are eligible and can help form part of the fixed-income component of a TFSA.