TFSA: Tax-Free Savings Accounts Drive Up Costs For Public Pension Plans Like Old Age Security And Guaranteed Income Supplement

First Posted: 02/17/2012 3:22 pm Updated: 02/17/2012 6:15 pm

OTTAWA - A popular savings program created by the federal Conservatives is exacerbating the fiscal pressure on public pension benefits — even as the government prepares to scale back benefits.

Prime Minister Stephen Harper set up tax-free savings accounts or TFSAs in 2008 to encourage savings, allowing adults to set aside up to $5,000 a year to grow tax-free.

The accounts have surged in popularity, and in the last election, Harper pledged to double the maximum annual amount, once the budget is balanced.

The fiscal problem is that when retirees start taking money out of their TFSA plans, none of that income is included in calculating whether they're eligible for Old Age Security or the Guaranteed Income Supplement.

So there's a big incentive for working people to save money in TFSAs while knowing they will still qualify for GIS when they retire — even if their income from their TFSA plans is high, says pension expert Keith Horner, a former Finance Department official.

He says if everyone who can takes full advantage of the TFSA-GIS trade-off, the costs of the GIS would skyrocket to about 84 per cent above official projections by 2030.

Horner is quick to acknowledge not everyone will take up the option.

But given the tax incentives embedded in the savings plans and the fact private-sector pensions are becoming less prevalent, the take-up on TFSAs is expected to be large, and Horner's numbers speak to the huge potential cost.

"The GIS is a real issue," Horner said in an interview.

"Governments should take these projected longer-term fiscal consequences of the current TFSA rules into account when assessing pension reform options," he adds, in a major paper for the Institute for Research on Public Policy.

Indeed, the government's chief actuary has also examined the numbers, and issued similar warnings.

In his 2009 assessment of Old Age Security, actuary Jean-Claude Menard found that the TFSA trade-off will cost the federal government an extra $4.2 billion annually by 2050.

His numbers are not as alarming as Horner's. But in a speech last fall, Menard put the government on notice that his numbers are preliminary and would be revised when he gets a better grip on the take-up of TFSAs.

"The projected impact of TFSAs will grow over time as people gradually adjust their saving behaviour," he says in a slide. He adds in bright blue letters: "TFSAs assumptions will be carefully monitored and adjusted in future, if needed."

The GIS is a maximum of $665 a month for a single senior, but the amount is reduced and eventually eliminated based on income. TFSA income is not included, even though it could amount to $1 million in savings over the lifetime of a diligently saving individual.

Harper announced last month in Davos, Switzerland, that the current retirement system will be fiscally unsustainable because of the aging population, and the dwindling number of taxpayers. He vowed to reform the system.

The next budget is expected to include firm direction on where he is heading with the reforms, centred on raising the age of eligibility for OAS and GIS — an idea that has prompted the beginnings of a backlash within the Conservative caucus.

Indeed, Harper's premise — that the OAS-GIS system is unsustainable, and status quo would bankrupt Ottawa — has been widely challenged.

In his fall speech, the chief actuary's main message was that Canada's pension system is well established, efficient and far sturdier than many other countries' systems.

In Edinburgh for a pension conference, Menard said the future costs of OAS are sustainable partly because future increases are not expected to grow as fast as wages.

"Over the longer-term, the inflation-indexed benefits will grow at a slower pace compared to wages, which will in turn lead to an increased sustainability of the program," Menard says.

In other words, an individual's OAS and GIS payments increase along with inflation. But over the medium and long term, wages are finally expected to start growing even faster than inflation, as labour shortages grow more acute.

So the tax base will be growing at a faster clip, helping to support the program. And OAS will take on a decreasing role in replacing the income of retirees.

In his address that sought to put Canada's pension system in an international context, Menard noted that other countries are raising the pensionable age. But he did not note any need in Canada to follow suit.

Rather, he framed Canada's system as "efficient," with a "reasonable economic cost" that was set to rise only modestly over the long term.

He produced a table showing that the burden of public pensions in Canada is one of the lightest in the developed world.

In 2010, public spending on pensions was five per cent of Canada's gross domestic product, set to rise to 6.6 per cent in 2030, and than fall back to 6.3 per cent in 2050, the table shows.

The data is taken from the Organization for Economic Co-operation and Development.

Compared with other countries, Canada's current burden is reasonable. But by 2030, other countries will see their public-pension burdens rise much higher than Canada's. And by 2050, only Australia and United States will see their burdens fall below Canada's, at just under five per cent in both places.

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  • What is the TFSA?

    The <a href="" target="_hplink">Tax-Free Savings Account</a> (TFSA) came into effect on January 1, 2009. Any Canadian aged 18 or older can invest $5,000 each year in the account and any capital gains earned on the money will not be taxed. Money can be withdrawn from the account at any time.

  • Who's Using The TFSA?

    The measure has been popular, but who is benefitting most has become a matter of fierce debate. In just under three years, 41 per cent of eligible Canadians have opened a TFSA. Nearly half, 46 per cent, of those who earn more than $100,000 per year have opened one, more than in any other income group, according to <a href="" target="_hplink">a survey recently conducted by Angus Reid for ING Direct</a>. How much money has been deposited by each earnings group remains a mystery. "I think the evidence shows that that's the kind of tax change, that while it's sold to the public as providing more choice and opportunities and everything else, really the only people who can benefit from it are the ones that have enough disposable income," <a href="" target="_hplink">says Charles Beach, an economist at Queen's University</a>. "Someone who's unemployed or living on low income, they simply don't benefit from that. So that's the kind of tax cut that I think favours those with the higher income."

  • TFSA Lifts All Boats?

    The Fraser Institute's Niels Veldhuis points out data on the TFSA remains scarce and that we shouldn't rush to judgment. That said, he argues that any vehicle which leads to more savings must be good for the economy. "It is positive regardless who is using it. The more savings we get, the more investment we get, the better off we all are." It's a matter of "fundamental economics," asserts Conservative Minister of State for Finance Ted Menzies. "Investments put in a bank are utilized by the banks to lend out to grow other businesses."

  • A 'Lunatic' Policy?

    Armine Yalnizyan, senior economist at the Canadian Centre For Policy Alternatives (CCPA), questions the supply-side argument that savings will translate into investment and investment into jobs and economic growth, especially since the TFSA was introduced during the "nadir of the economic meltdown." She argues consumer demand is more important than investment for stimulating growth. "In the middle of this economic calamity, the federal government introduces a measure that does the opposite of what every other nation around the world is trying to do, which is to stimulate aggregate demand. Instead the government is favouring a program that tells people to pull money out of the economy. Stop spending, start saving. That is lunacy, there is no other word for it."

  • More And Bigger TFSAs

    Soon, Canadians will likely get the chance to put away even more money into their TFSAs. The Conservatives promised during the last election campaign to increase the annual contribution limit to $10,000 per year once there is a return to balanced budgets.


Filed by Michael Bolen  |  Report Corrections