TFSA Over-Contribution Tax
Individuals have a certain amount they can contribute across all of their Tax-Free Savings Plan (“TFSA”) accounts known as “contribution room”. In each year, individuals who are over 18 are given a set amount of additional contribution room. For example, between 2019 and 2022, individuals received $6,000 in contribution room each year. Any unused contribution room will accumulate. An individual who did not contribute to his or her TFSA between 2019 and 2021 would have at least $18,000 in contribution room built up over the past three years.
If an individual contributes an amount to his or her TFSA which exceeds his or her available contribution room, the individual has “over-contributed” and has “excess contributions”. If a taxpayer has multiple TFSA accounts, these accounts will be considered collectively to determine whether excess contributions occurred. An over-contribution tax is applied to the over-contributed amount equal to 1% of the over-contributed amount per month.
Filing Requirements for TFSA Over-Contributions
A taxpayer who has an excess contribution on a TFSA account is required to file RC-243 Tax-Free Savings Account (TFSA) return. A late-filing penalty will apply if this return is not filed by the applicable deadline. The applicable deadline is June 30th of the following year, unless the person is deceased, in which case it is the later of June 30th and 6 months after the date of death of the individual.
TFSA Waiver Applications for Over-Contribution Tax
The Minister of National Revenue can, at her discretion, waive the over-contribution taxes discussed above. The CRA administers this relief on behalf of the Minister. The CRA will grant a waiver of the tax where the taxpayer meets the 2 necessary conditions under the Income Tax Act.
The first condition for a waiver of the tax arising from a TFSA is that the contributions which led to the tax were made as a consequence of reasonable error. Whether a reasonable error occurred is highly dependent on the facts of the individual case. The second condition for receiving the TFSA waiver requires the taxpayer to have removed the incorrectly contributed amount as well as any income reasonably attributable to the incorrectly contributed amount.
If the two conditions enumerated above, the over-contribution tax may be waived. As interest on the over-contribution tax is calculated as a percentage of the underlying tax, a waiver of the tax will result in an accompanying decrease in the interest.
What happens if the taxpayer cannot remove the over-contribution?
During a recent roundtable, the CRA was asked what the outcome is for a taxpayer who over-contributes to his or her TFSA, then has the TFSA lose value to the point where there are insufficient funds in the TFSA to withdraw the over-contribution.
Specifically, the taxpayer in question had just become a Canadian tax resident. Since only Canadian tax residents can receive TFSA contribution room, he had only one year’s worth of contribution room in the amount of $6,000. He contributed $18,000 to his TFSA account in 2021. Before he could realize his error and remove the $12,000 in excess contributions, the value of his TFSA plummeted to zero. He was thus unable to remove the over-contributed amount.
A Notice Regarding CRA Interpretations
Prior to discussing the CRA’s response to the taxpayer’s TFSA dilemma, a disclaimer must be made. CRA interpretations are not law, meaning they may not hold-up to legal challenge or may be forced to change if alterations are made to the underlying tax act. However, they have significant influence when it comes to programs like the TFSA over-contribution tax waiver which are administered by the CRA and will usually, but not always, act in accordance with their interpretations.
This CRA opinion was also marked as a “preliminary opinion” and could change.
The CRA’s Interpretation Regarding the TFSA Over-Contribution
The CRA’s interpretation was not favourable for taxpayers. In effect, the CRA informed the taxpayer that his inability to remove the over-contributed amount due to the decrease in value of the TFSA account meant he will simply be required to pay the over-contribution tax and cannot receive relief from the over-contribution tax.
The CRA determined the taxpayer would have to wait until the new contribution room he received on his TFSA in the proceeding years reduced the excess TFSA amounts. Provided the taxpayer makes no further TFSA contributions, and the TFSA contribution room of $6000 stays the same “the excess TFSA amount will be reduced to $6000 on 1 January 2022, and fully eliminated on 1 January 2023. The individual is liable on that basis for the 1% tax in 2021 and 2022” says the CRA. He is also required to file the RC-243 for 2021 and 2022.
The taxpayer could not receive relief from this tax because he did not qualify for a waiver of the over-contribution tax. The taxpayer could not meet the second criteria for a successful waiver application of having removed the excess contribution and any associated income because there was an insufficient balance in the TFSA account to allow him to remove these amounts.
Taxpayers faced with similar circumstances where a decrease in value of their TFSA prevents them from removing the over-contributed amount may wish to consider a remission application through an experienced Canadian tax lawyer. A Canadian tax lawyer makes a remission application to request a taxpayer’s tax debt, interest and/or penalties be cancelled because the strict application of the law is causing an unjust result. Remission applications are considered a last resort once other options are exhausted.
Pro-Tax Tips: Determining whether reasonable error occurred.
In most cases, removing the excess contribution and any associated income is the easier of two criteria to meet for a successful TFSA over-contribution tax waiver application. Where most waiver applications fail is proving the excess contribution arose from “reasonable error”. A taxpayer cannot, for example, merely claim ignorance of the law to suggest his or her excess contribution was made in “reasonable error”. The CRA has also expressed reluctance to accept “reasonable error” occurred just because a taxpayer consulted with a professional. Nevertheless, every application is considered on its own circumstances and merits.
Our experienced Canadian tax lawyers can review your case to determine whether a strong case for “reasonable error” exists in your circumstances.
"This article provides information of a general nature only. It is only current at the posting date. It is not updated and it may no longer be current. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in the articles. If you have specific legal questions you should consult a lawyer."