When an individual passes away, the value of the TFSA is not taxed. However there are possible implications as the Estate is being settled depending on the province of residence.
What is a TFSA
A tax-free savings account (TFSA) is a vehicle for Canadian residents aged 18 or older with a valid social insurance number to set aside funds that can grow on a tax-free basis like an RRSP. Unlike an RRSP, TFSA contributions are not tax deductible. Since the introduction of the TFSA in 2009, the maximum contribution amounts are fixed annually and accumulate each year. The maximum cumulative contributions allowed since 2009 are $81,500 so the TFSA has become an excellent way to accumulate wealth on a tax-free basis.
What happens to your TFSA on death
Since contributions to a TFSA are not deductible, withdrawals during lifetime are not taxable nor is the value of the TFSA taxed on death. However, the treatment of the value of the TFSA to your heirs and income earned after death may differ, depending on who inherits the TFSA and where they live.
Successor Holders and Designated Beneficiaries
Some provinces recognize TFSA beneficiary designations. This means that TFSA holders in those provinces may name a successor holder in the TFSA contract or in their will. A successor holder is limited to a spouse or common law partner. A named successor holder automatically becomes the new holder of the TFSA upon the death of their partner. Assuming the TFSA did not hold an excess amount at death, the beneficiary’s unused TFSA room is unaffected by their having assumed ownership of the deceased’s TFSA. They can also choose to transfer the new holdings into their existing TFSA account on a tax-free basis as a qualified transfer, again without affecting their unused TFSA room.
Alternatively, you may name a designated beneficiary of the TFSA. If your spouse or partner is designated as the beneficiary of your TFSA instead of being designated as successor holder, they have until December 31st of the year of death to contribute any payments received from your TFSA, up to the date of death value, into their own TFSA without affecting their own unused TFSA contribution room. To affect this “exempt contribution” they must file form RC240 – Designation of an Exempt Contribution – TFSA within 30 days after the contribution is made. Any income earned between the date of death and the time of transfer is taxable to the surviving spouse.
Designated beneficiaries can also include former spouses or common-law partners, children, a subsequent survivor holder who is the new spouse or common-law partner of the successor holder, and qualified donees. These designated beneficiaries do not pay tax on payments out of the TFSA up to the fair market value of the TFSA on death of the holder. However, any income earned in the TFSA after death is taxable. A designated beneficiary may contribute any amounts received to their own TFSA, assuming they have unused contribution room available.
TFSAs in Quebec
Unfortunately for TFSA holders in Quebec, the designation of a successor holder is currently only allowed if the TFSA is tied to an insurance policy or annuity contract. Accordingly, most TFSAs in Quebec do not allow the designation of a successor holder. As a result, if the surviving spouse or common law partner resides in Quebec and inherits the TFSA, they can only be designated beneficiaries and are subject to the rules above, i.e. they should complete Form RC240 to designate any transfer amount as an exempt contribution within 30 days after the contribution is made and declare as income any increase in value of the TFSA after death.
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Have questions related to your TFSA? Want to start the conversation about your overall estate plan? Please do not hesitate to contact one of our Estates and Trusts specialists.