More than a decade after the introduction of tax-free savings accounts (
), here’s a great way to take advantage of them using a little intergenerational planning.
As most people know, anyone who was 18 years old when the TFSA program was introduced has since accumulated $102,000 of lifetime contribution room, with new room being added every calendar year. The current limit is set at $7,000 per year.
One of the great things about these accounts is their versatility. The money can be used for emergencies and supplementing retirement income as people get older, but the options are even better if you’re young. That is because a TFSA can be used to buy a home, or help pay for an education, or fund a wedding — all things that young people can face as they are finding their financial footing.
Unlike registered retirement savings plans (
), where contribution room depends on your earned income, TFSAs allow for contribution room just for being an adult Canadian citizen. The problem for people in their late teens and 20s is they often don’t have extra cash lying around to take advantage of the program. What if they got a little help from Mom and Dad, or even Grandma and Grandpa?
Well-to-do grandparents have long assisted their children and grandchildren. It is only natural to want future generations to have a better life. So, if you have the wherewithal to help make that happen, why wouldn’t you do it?
The extent to which grandparents might give money to their grandkids to put into a TFSA depends on several factors, including the wealth of the grandparents, the number of grandchildren and the age of the grandchildren. Because of the TFSA’s flexibility, it doesn’t matter if the grandchildren are academically oriented or not and it doesn’t matter what their goals are, either. The great thing about TFSAs is that they can be used in a variety of situations and it is likely there’s an application to suit almost any taste in lifestyle or in life objectives.
Here’s an example: Let’s say Grandma and Grandpa have $1 million of net liquid assets above and beyond their residence and their registered retirement income fund (
) accounts. Let’s further assume that their pensions and RRIFs are all they need to maintain their lifestyle. Now, let’s further assume that they have two children and each of those two children has two children, as well.
If there are only four grandchildren and if the grandparents wanted to be helpful, they could give up to $7,000 a year to every grandchild once that grandchild had their 18th birthday. There could be some bad blood between grandchildren if there’s a substantial difference in age between the oldest and youngest, but if there’s an understanding that Grandma and Grandpa will be contributing a similar amount for all kids eventually, perhaps for a specified timeframe, then the concerns of equity between grandchildren should fall by the wayside. The grandparents’ wills could account for various eventualities, including if they were to die before all the funds were fully distributed.
Let’s say Grandma and Grandpa gifted the grandkids $7,000 every year (indexed to inflation and increasing as limits are raised) between their ages of 18 and 30. Each grandchild would therefore have 12 years’ worth of contributions. With the contribution limit rising over time, those amounts would only go up. As a result, the four grandchildren would probably have about $100,000 contributed to each of their TFSAs by the time they reached 30.
Grandma and Grandpa could also set terms and conditions around those contributions. For instance, if a grandchild withdraws the money for a down payment or post-secondary education, there will be no consequences and the annual contributions will continue. However, if a grandchild withdraws money to do something that is deemed by the grandparents to be frivolous, all future contributions could be halted.
It’s a good way to teach focus and discipline, but also to introduce some slow but sure estate planning because this plan also means there is a smaller tax liability on the final return of the second grandparent to die.
The grandchildren can feel confident that they will be on a sure footing as they start their families and careers. Meanwhile, the grandparents might have $400,000 less to distribute from their estate once the second spouse dies.
This is a simple example of how TFSAs can be used to help give young people a leg up and to get them the money they were likely to receive anyway, only sooner and when more needed, as well as more tax effectively. Most families won’t have such generous and forward-looking patriarchs and matriarchs but for those who have the means this would be a tidy way of showing love while giving grandchildren a head start in life.
John De Goey is a portfolio manager with Designed Securities Ltd., regulated by the Canadian Investment Regulatory Organization and a member of the Canadian Investor Protection Fund. He is also host of the Make Better Wealth Decisions podcast.
