Why $10,000 was the Wrong Limit for the TFSA

The new federal government has cut the TFSA limit from $10,000 down to $5,500 for 2016.  Some are trying to get a petition going to reinstate the $10,000 limit, but I think that is the wrong number.
    I don't see it going back to $10,000, but asking to have the TFSA limit changed to $8,150.00 and there is a small chance that it would get done.
    $10,000 wasn't really logical, it was just a big number that many people would not be able to achieve.  $8,150 is still a big number that most won't save, but at least there is some math to back up that number.
    So why $8,150 for 2016?  $8,150 is 18% of $45,282.  Those may seem like random percentages and numbers, but they are not.  At $45,282 the federal tax bracket goes from 15% to 20.5%, some of the provinces also have a tax bracket increase at that number as well.  At this bracket it might be wise to use a RRSP instead of a TFSA, but if you are making less than $45,282 it will probably be more beneficial if you place your savings into a TFSA.
    You can save up to 18% of your salary in your RRSP, but if you still have contribution room in your TFSA and if you make less than $45,282, then it would be less beneficial to contribute to your RRSP.  So having an option for Canadians that earn less than $45,282 in annual salary to save 18% in their most tax efficient account (TFSA) would be the right thing to do.


Advertisement

Credit Card Nerd Math

Someone that earns $45,282 and wants to save 18% of their salary and eventually withdraw their savings in retirement in the most tax efficient manner would need to invest $8,150 in a TFSA.  The math works like this; $45,282 x 18% = $8,150.76.  You could also argue that $7,520 is the right number as well.  Why $7,520, because it would be 18% of $45,282 minus the first $3,500 (the CPP contribution starting point) earned. ($45,282 - $3,500) x 18% = $7520.76 TFSA limit.
    Below we have a chart with a TFSA limit of 18% of the second federal tax bracket and the actual TFSA limit.  Both are indexed to inflation and have been rounded up or down to a more practical rounded number.



Our 18% up to 20.5% Bracket TFSA vs Actual TFSA

TFSA Difference

Year

20.5% Bracket TFSA

Actual TFSA

Compounded Difference

1

$8,150

$5,500

$2,650

2

$8,400

$5,700

$5,350

3

$8,600

$5,800

$8,150

4

$8,900

$6,000

$11,050

5

$9,200

$6,200

$14,050

10

$10,600

$7,200

$30,380

15

$12,300

$8,300

$49,290

20

$14,300

$9,600

$71,200

25

$16,600

$11,200

$96,600


Advertisement

A Wake Up Call

I think the $10,000 TFSA contribution limit was a mistake by the Conservatives, because there was no way to sell it to the middle class that don't pay attention to their savings and no way to tell someone with a government pension on why other Canadians may need the extra space to save for retirement.  A number like $8,150 in 2016 and $8,050 ($44,701 x 18%) for 2015 would have been an easier sell and would have made it much harder to reduce a savings plan that helps the Canadians that need it the most.