The tax advantage of a tax-free savings account (TFSA) can be very powerful. Imagine holding off on buying yet another toy or computer game this month and rather investing that money in a TFSA on behalf of your child?
There are some practical considerations, however, that we do need to highlight. Remember, you’ll only save tax on your investment returns in a TFSA if you’re liable to pay tax as an individual. Children are rarely liable for tax until they are deep into their twenties. They are also not going to pay a significant amount of tax until they are close to 30 years of age.
The key question therefore is when you expect the TFSA to be cashed in – which really is about how you plan to use the TFSA proceeds. For example, are you saving to assist your child to start their own business when they are in their early thirties? Or are you saving for them to go on a year-long sabbatical after finishing high school?
In the case of the first example, a TFSA in the name of the child is a great option. But not in the case of the second example. Remember, a TFSA allows for a lifetime investment limit of only R500 000. If you start saving when your child is five years old, and the full investment is withdrawn at age 22, you would have exhausted your child’s tax-free savings allowance forever – without them receiving much tax benefit in return. This is because the child’s tax liability up to that point would have been minimal.
Therefore, if the goal of the investment is to pay out before your child becomes a taxpayer, you could rather take out the TFSA in the parent’s name, or take out a traditional investment (i.e. not a TFSA) in the name of your child.
Get the right advice
Whether you ultimately pick a normal investment vehicle or a TFSA, it is never too early to start saving for your and your children’s future. Starting early is a key ingredient to investment success.
We always advocate the benefits of independent financial advice – if you have an existing advisor, ask them for guidance. However, many people starting out may not yet have a trusted advisor, and to these investors my recommendation is to keep it simple. Look for TFSAs from an institution that has a reputable brand or with which you have an existing relationship.