[healey]

Penalty is 1%/month.

Is it worthwhile?

I think it comes down to this: if your tax savings (by having it in the TFSA) are greater than the cost of paying the 1% monthly penalty, then it's worthwhile!
Myself, from some preliminary calculations, it's definitely looking like this would be worthwhile.

Has anyone else on here done this?

 

[Germack]

It is not worthwile at all.

Lets assume you over contribute $10000 and are lucky and have a rate of return of 10% or $1000 in a year.

Your tax savings are 1000*0.5 *50% tax rate = $250

Penalty is $100 per month *12 = $1200

Penalty >> Tax savings therefore it does not make anysense.

 

[el oro]

Yes, it's worth it if your tax savings are greater than the 1% penalty.

So if you contribute the $10,000 and make 4.2% in a month you have $10,420. The 1% penalty would be $104.20 while tax would be $10,402*0.5*50%=$105.

So, in this simple example, if you can beat 4.2% per month or 64% per year then go for it.

 

[CanadianCapitalist]

Penalty is 1%/month.

Is it worthwhile?

Definitely not, IMO. Precious few can consistently make more than 12% per year.

 

[brad]

Not to mention the probability that this kind of deliberate gaming of the system is likely to trigger an audit. And if enough people try to beat the system they'll just increase the penalties until they provide enough of a disincentive.

 

[canadianbanks]

I wouldn't do that, and as others said you need a really high return on your money to beat the penalty.

 

[healey]

Thx for the replies guys!

For most people, I don't think this strategy would be profitable. I was thinking more for very active traders who spend a lot of time trading and who can accumulate a lot of small profits.

Brad: You raise a very important point--that doing this might increase one's probability of being audited. But, if one is declaring everything properly, then is there anything to worry about (besides the hassle)?

 

[CuriousReader]

hassle - when dealing with anything related to government is usually A BIG PAIN

 

[brad]

Brad: You raise a very important point--that doing this might increase one's probability of being audited. But, if one is declaring everything properly, then is there anything to worry about (besides the hassle)?

Nothing to worry about, but the hassle involved in an audit is non-trivial. Having been audited once I can say it's something I'd like to avoid ever having to go through again; it ate up many, many hours of my time.

 

[healey]

thx Curious + Brad.
I've never been audited, but I tend to agree with you Curious!

Brad: on your audit, did the government bureaucrats find anything "wrong"? Like, I'm wondering if even "clean" audits take up gobs of time.

 

[brad]

Brad: on your audit, did the government bureaucrats find anything "wrong"? Like, I'm wondering if even "clean" audits take up gobs of time.

Well, in my case it was a goof by my accountant, who thought I could take a tax deduction for my home office (I've been working at home since about 1992, first in the US and more recently from Canada), and while we thought we had a decent case for me taking the deduction I wasn't really entitled to it because I live here by choice -- in other words my employer didn't assign me to live in Montreal; I came here on my own volition. I've always worked remotely for this employer and my location doesn't matter (i'm a writer and editor, and don't need to be physically based at my company's office).

Anyway, they disallowed the deduction but it was only a few hundred bucks anyway. The real cost to me was the time and headache involved in gathering all the information they requested and all the documentation from my employer.

 

[MoneyGal]

Clean audits take a lot of time, too. I had some pretty wild (and completely legitimate) income swings in the mid-1990s and two years were selected for review.

Because I worked out of my home (and was unwilling to pay my accountant to use his space for these purposes) the auditor came to my house for about two weeks and essentially re-created my books from scratch for that time period.

It was uncomfortable (in retrospect I would pay my accountant if I was audited again) because I had this person in my personal space. My accountant was also shocked that they didn't do a spot audit - they reviewed every single receipt claimed. (He said this must have been the most inexperienced auditor in the world.)

In the end, they found no anomalies and no additional tax was owing (or refunded). They put that on paper and all was well.

 

[ashby corner]

I'd like to figure out how to make 12% on ANYTHING!

 

[brad]

I'd like to figure out how to make 12% on ANYTHING!

While you have to sort of stand the notion of "investment" on its head to see it, investing in energy efficiency upgrades can give you really impressive returns (average of 16%, as high as 41%). This rather ancient graphic is out of date in terms of stock market returns, but the paybacks for energy efficiency investments are still valid:

http://hes.lbl.gov/hes/profitable.html

The basic deal is that you shell out some money up front for the energy efficiency improvements (e.g., efficient lights, efficient fridge, efficient washer, whatever), but the money you save in energy costs pays for the difference within a few years and from then on it's clear profit. The key is to make these decisions at the time you're going to have to replace your equipment anyway. If you just bought a new fridge last year you won't save money by replacing it with an Energy Star model this year. But if you have a 20-year-old fridge that's busted and you need a new one, spending a little more up front to buy an efficient model becomes an investment as your energy bills go down. Furthermore if you take your energy bill savings and invest them, your gains are even higher.

 

[cardhu]

The 1% penalty would be $104.20 ...

Check your math.
The 1% penalty would be $100.00.

 

[el oro]

THanks, checked the math. My mistake. The 1% penalty in that case would have been $50 since it's only a penalty on the overcontribution. That makes it somewhat better.

 

[cardhu]

OK ... I assumed you were overcontributing by $10k, like the post just before yours did ...

If you’re only overcontributing by $5k, then yes the monthly penalty would be only $50 ... versus $52.50 tax avoided (using your assumption of 4.2% monthly return and 50% marginal tax rate)

Of course, that mythical 50% marginal tax rate doesn’t exist, so in real life, you'd need higher returns to avoid that amount of tax ... at a 40% marginal rate, you'd need 80% annual returns, to avoid $50 tax, and at a 30% marginal rate, you'd need 117% annual returns to avoid $50 tax.

 

[el oro]

Of course, that mythical 50% marginal tax rate doesn’t exist, so in real life, you'd need higher returns to avoid that amount of tax ... at a 40% marginal rate, you'd need 80% annual returns, to avoid $50 tax, and at a 30% marginal rate, you'd need 117% annual returns to avoid $50 tax.

You're right about that tax rate but it looks like you're assuming they take penalty from the overcontribution AND penalty from gains made on that overcontribution. Has that been confirmed somewhere?

 

[Germack]

You're right about that tax rate but it looks like you're assuming they take penalty from the overcontribution AND penalty from gains made on that overcontribution. Has that been confirmed somewhere?

Who cares anyways. The penalty is so huge it does not make any sense. Who can achieve a return of > 50% per year?

 

[cardhu]

... it looks like you're assuming they take penalty from the overcontribution AND penalty from gains made on that overcontribution ...

No ... that was the mistake you made in your initial post ... and the reason I suggested you check your math ... the penalty applies to the overcontribution ONLY.

The underlying premise of this silly maneouver is to shelter extra money from normal run-of-the-mill taxes ... or to “avoid” taxes in your taxable account ... if you’re paying $50 penalty to avoid $50 tax, then you’re just breaking even, and what’s the point of doing that? ... and if you have to generate returns of 117% per year just to get over that hump, then it’s a fantasy to suggest it could work.

Who cares anyways. The penalty is so huge it does not make any sense. Who can achieve a return of > 50% per year?

That is precisely the point.