The Tax-Free Savings Account (TFSA) is one of the most versatile and powerful tools available to Canadians for building wealth. But despite its simplicity, there are common TFSA mistakes people make that can cost them money or limit their growth potential.
Whether you’re new to TFSAs or have been contributing for years, avoiding these pitfalls can save you time, stress, and penalties. Let’s dive into some of the most frequent errors and how to steer clear of them.
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1. Overcontributing to Your TFSA
One of the most common TFSA mistakes is overcontributing. Each year, Canadians receive a set amount of TFSA contribution room, and any unused room carries forward. 2025 TFSA contribution limit is $7,000. However, if you exceed your contribution limit, the Canada Revenue Agency (CRA) charges a 1% monthly penalty on the excess amount until it’s withdrawn.
Example: Imagine you’ve maxed out your TFSA contribution room, but you forget and deposit an extra $2,000. You’d be penalized $20 per month until you remove the overage.
How to Avoid This Mistake:
- Regularly check your contribution room on CRA’s My Account or your latest notice of assessment.
- Keep a personal record of your TFSA transactions to avoid errors.
2. Treating TFSA Like a Regular Savings Account
Many people mistakenly believe that the TFSA is just a high-interest savings account. While it can hold cash, its real power lies in its ability to hold a variety of investments like stocks, exchange-traded funds (ETFs), mutual funds, and bonds, allowing for tax-free growth.
Example: If you’re only earning 1.5% interest on cash in your TFSA, you’re missing out on potential gains from higher-return investments like an S&P 500 ETF, which averages around 7-10% annually over the long term.
How to Avoid This Mistake:
- Explore investment options based on your risk tolerance and financial goals.
- Use your TFSA strategically—as a vehicle for both short-term savings and long-term investing.
3. Withdrawing and Recontributing in the Same Year
TFSAs are flexible when it comes to withdrawals, but there’s a catch: any withdrawn amount gets added back to your contribution room only in the following calendar year. If you recontribute in the same year and have no contribution room left, it’s treated as an overcontribution.
Example: If you withdraw $5,000 in May to cover car repairs and recontribute it in August after already using all your contribution room, you’ll trigger a penalty. The Canada Revenue Agency (CRA) will charge a 1% monthly penalty on the excess amount until it’s withdrawn.
This is the costly mistake I made when I first started using a TFSA. I opened a TFSA at Wealthsimple and later another one at Questrade. When I decided to consolidate my TFSA accounts, I sold the investments in my Wealthsimple TFSA, withdrew the cash, and deposited it into my Questrade TFSA in the same year. I thought I was streamlining my accounts, but I didn’t realize I was making a costly mistake—until I received a penalty letter from the CRA.
How to Avoid This Mistake:
- Plan your withdrawals carefully.
- Wait until January 1 of the following year to redeposit withdrawn funds unless you’re sure you have room.
- If you’re transferring your TFSA to another broker, avoid withdrawing the money from your current TFSA to deposit it into the new one. The CRA will treat this as a withdrawal and a new contribution, which could lead to over-contribution penalties. Instead, request a direct transfer of your TFSA investments from your existing broker to the new one.
What to do if you’ve already over-contributed:
Contact your broker to sell the necessary investments and withdraw the excess amount from your TFSA as soon as possible. This will help minimize penalties from the CRA.
4. Forgetting to Name a Successor Holder
In Canada, you can designate someone as either a successor holder or a beneficiary for your TFSA, but there are key differences between the two:
Successor Holder
- A successor holder is typically your spouse or common-law partner.
- If you name your spouse as the successor holder, upon your death, the TFSA assets can transfer directly to them without affecting their own TFSA contribution room.
- The account remains a TFSA and retains its tax-free status.
- Your spouse essentially “takes over” the TFSA, including all its assets, contribution room, and future growth.
Beneficiary
- A beneficiary can be anyone (spouse, child, relative, etc.).
- If a beneficiary is designated, the TFSA is collapsed upon your death, and the assets are distributed to the beneficiary.
- While the transfer itself is tax-free, any income or growth generated after your death will be taxable to the beneficiary.
- A spouse who is named a beneficiary can still contribute the inherited TFSA amount to their own TFSA using the “exempt contribution” provision, but it requires additional steps.
Key Considerations
- If you want to maximize the tax-free advantages of your TFSA for your spouse, designating them as a successor holder is usually the better option.
- If you’re naming someone other than your spouse, the designation would be as a beneficiary.
How to Avoid This Mistake:
- When setting up or updating your TFSA, designate your spouse or partner as a successor holder if applicable.
- Review your beneficiary designations regularly, especially after major life events.
5. Holding U.S. Dividend Stocks Directly in a TFSA
While TFSAs are tax-free in Canada, they’re not recognized as tax-advantaged accounts by the U.S. government. This means U.S. dividends held in a TFSA are subject to a 15% withholding tax.
Example: If you hold $10,000 worth of U.S. dividend-paying stocks yielding 4%, you’ll lose 15% of the $400 in dividends—or $60 annually—to withholding taxes.
How to Avoid This Mistake:
- Hold U.S. dividend-paying stocks in an RRSP, which is exempt from this tax under the Canada-U.S. tax treaty.
- Use your TFSA for growth-oriented investments or Canadian dividend stocks.
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6. Day Trading or Frequent Trading
Using your TFSA for frequent trading can attract unwanted attention from the CRA. If they determine that you’re running a business within your TFSA, any gains could be taxed as business income.
Additionally, if you incur losses from day trading within a TFSA, you can’t claim those losses as you might in a non-registered or margin account. I learned this the hard way when I trade some Chinese technology stocks—a mistake that taught me a valuable lesson. After that, I promised myself I’d never do it again.
Example: Someone who trades daily or weekly within their TFSA and generates significant gains may trigger a CRA audit. If classified as business income, they’d lose their tax-free status on those earnings.
How to Avoid This Mistake:
- Treat your TFSA as an investment account, not a trading account.
- Limit the frequency of your trades and document your intent to invest for the long term.
- If you’re open to speculative trading, consider using a non-registered or margin account instead.
7. Ignoring Your TFSA Altogether
Surprisingly, some Canadians don’t take advantage of their TFSA at all. Whether it’s due to a lack of knowledge, procrastination, or fear stemming from events like the 2008–2009 financial crisis with the S&P 500 losing nearly 60 percent from its October 2007 peak, this can lead to missed opportunities for tax-free growth over time.
Example: If you’ve been eligible for a TFSA since 2009 but haven’t opened one yet, you could have over $102,000 in unused contribution room by 2025. That’s a huge opportunity for tax-free growth left on the table. It took me two years after becoming eligible to open my TFSA and make a deposit, and another eight months before I made my first investment.
How to Avoid This Mistake:
- Open a TFSA as soon as possible, even if you start with a small amount.
- Set up automatic contributions to steadily grow your savings or investments.
8. Misunderstanding Contribution Rules for Non-Residents
If you become a non-resident of Canada, you can still hold a TFSA, but you won’t earn new contribution room. Contributing while non-resident triggers penalties.
Example: You move to the U.S. for work and contribute $7,000 to your TFSA the following year. The CRA imposes a 1% monthly penalty on that amount.
How to Avoid This Mistake:
- Pause TFSA contributions if you become a non-resident.
- Focus on other tax-advantaged accounts in your new country of residence.
9. Failing to Align Investments with Goals
Using your TFSA for the wrong types of investments can limit its effectiveness. For instance, holding high-risk investments for a short-term goal or overly conservative investments for long-term growth may not serve your financial needs.
Example: You’re saving for a vacation next year but invest in volatile stocks. If the market dips, you could lose money when you need it.
How to Avoid This Mistake:
- Match your investments to your time horizon and risk tolerance.
- Use cash or low-risk investments for short-term goals and equities for long-term growth.
10. Relying on TFSA Alone for Retirement Savings
While the TFSA is a fantastic tool, it’s not a replacement for other retirement savings options like RRSPs, especially if you’re in a higher tax bracket.
Example: If you earn $120,000 annually, contributing to an RRSP offers an immediate tax deduction, potentially saving you thousands in taxes, which can then be invested. TFSAs don’t offer this upfront benefit.
How to Avoid This Mistake:
- Use both your TFSA and RRSP strategically to maximize savings.
- Consult a financial advisor to create a comprehensive retirement plan.
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Final Thoughts
Avoiding these common TFSA mistakes can help you maximize the benefits of this powerful account. From understanding contribution rules to choosing the right investments, a little planning goes a long way. Your TFSA is more than just a savings account—it’s a gateway to tax-free growth that can play a key role in your financial future.
Got a question about your TFSA? Share it in the comments below! Let’s learn and grow together.
