A Tax-Free Savings Account (TFSA) is a powerful registered investment accountability you can use to save for any big-ticket item or goal – tax-free. If you like more flexibility and less taxes, consider opening a TFSA.

With all the benefits accrued in TFSA, there are still common pitfalls you have to stay clear of, some of which are mentioned below;

Over contributing: Just as contributing to TFSA is great room for ample saving, contributing more than your annual TFSA contribution limit can result in penalties. You incur a penalty of 1% of the value every month.

Make sure not to exceed your limit by keeping track of your contribution room, which the government determines and may change each year. Monitor your contributions and withdrawals to stay within the limit.

Withdrawals to set up a new TFSA: You can make a withdrawal from your TFSA at any time without tax consequences. A withdrawal does not reduce contributions made during the year, rather the amount withdrawn will only be added back to your TFSA contribution limit the following calendar year. This means if you withdraw an amount from your TFSA it cannot be recontributed in the same year unless you still have an existing contribution limit available. So, while the TFSA is a good long-term investment vehicle, you should not be using it for regular banking or high volumes of transactions.

Ignoring investment risk: TFSA is an investment, as such, there are risks associated with it, avoid investing in high-risk assets without understanding the risk involved. Also, if you’re planning to withdraw from your TFSA in the short term, consider the effect market fluctuations can have on your future contribution limit.

Contributions made while outside Canada: It’s okay to maintain investments inside a TFSA account in Canada if you opt to live, work, or study abroad, but be aware that any new contributions made while you are considered a non-resident may be subject to a tax penalty of 1% per month. If you withdraw money from a TFSA while residing abroad, there’s no penalty in Canada — but you may be subject to withholding tax. In other types of investment, you may be able to claim a foreign credit to offset the withholding tax deducted, but this is not the case with a TFSA.

Don’t use your TFSA for day trading: Like RRSPs, it is acceptable to manage your portfolio in a self-directed TFSA account. However, you should be aware that a TFSA is not intended for frequent buying and selling and cannot be used as a guise for what would otherwise be considered an active trading business. Also note that if you are undertaking a high frequency of transactions within your TFSA or outright day trading, this could result in unwanted attention from the CRA auditors.  If the CRA determines you have been using a TFSA account for carrying on a business, such as the case with day trading for example, all dividends, interest, and gains could end up being taxed as business income.

Not naming a successor holder: it’s usually better to name your spouse or common-law partner as the successor holder rather than the beneficiary. Only a spouse or common-law partner can be designated as a successor holder, meaning they will effectively become the new owner of your TFSA with the same tax-free status, basically as though it was always their account. If you were to name them as the beneficiary instead, they can still receive the TFSA’s assets tax-free but it’s not as seamless as using the successor designation and they’ll have to deal with extra administrative work in obtaining those assets.

Let’s look at the above options in the event of your death:

Successor holder: In this case your spouse can keep your TFSA intact, giving room for the funds to continue to grow tax-free. Your spouse can be your successor holder even if they have their own TFSA, but they will not be able to contribute further to your account.

Beneficiary: In this case, your TFSA would be closed, and a cheque would be issued to your spouse for the total amount in the TFSA plus any investment growth. A beneficiary designation is best used to distribute a TFSA to beneficiaries other than your spouse, such as your children, grandchildren, or a charitable organization.

To make the most of your TFSA, it’s essential to stay informed, plan your contributions and withdrawals carefully, and consider seeking professional financial advice when needed.