Comments on: Why ban swap transactions in TFSA accounts?

By: integriti

integriti — Sat, 13 Feb 2010 19:13:02 +0000

TFSA swaps are as valid and reasonable financial planning procedure as RRSP swaps. They permit the movement of assets in and out of registered accounts and are governed by existing tax regulation, which, in the case of RRSP swaps, have been in existance for decades. They are neccessary for a variety of reasons, some of which carry consequences of significant financial cost/benefit. The TFSA swap should not be unreasonably withheld as it is suggested the Federal Government proposes.

The real problem has to do with large amounts of transfers performed to exploit tax arbitrage. This is suggested in the wording, “…these transfers, when performed on a frequent basis with a view to exploiting small changes in asset value…”.

To eliminate the TFSA swap prevents a legitimate and procedure from occurring. It is a draconian blanket response to a small subset of problems/issues. There are better ways of dealing with this – ways that don’t penalize other law-abiding investors. I’m surprised the financial planning community isn’t responding more vehemently.

If the issue is “frequent basis” then perhaps a more reasonable solution would be to restrict the number of swaps permitted in any one calendar year – not to one, but to perhaps 10 transactions. This should permit the vast majority of legitimate tax planning, estate planning and/or financial planning strategies to occur without any undue restrictions or barriers.

By: uberVU - social comments

uberVU - social comments — Mon, 26 Oct 2009 02:48:01 +0000

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By: Canadian Personal Finance Blog » Blog Archive » Random Bond and TFSA Thoughts

Fri, 23 Oct 2009 06:51:24 +0000

[...] Canadian Capitalist also comments on the TFSA changes and also wants to know Why Ban Swap Transactions in TFSA Accounts [...]

By: Michael James

Michael James — Thu, 22 Oct 2009 18:34:00 +0000

When there is an actual sale involved, brokerages are very good at keeping track of the sale price and other data. But when you just move some equities from one of your accounts to another, brokerages aren’t set up to record a fair price. They could change to meet this new requirement, but I don’t think they would want to. If they do it poorly, then it will be open to abuse by their clients and we’re back where we started. To do it well would cost money. It’s far easier for them to have the government ban swaps.

By: Canadian Capitalist

Canadian Capitalist — Thu, 22 Oct 2009 18:22:38 +0000

@Michael: I saw Jean’s post and think that the FWF post he refers to makes sense on how a swap can be used to transfer cash from RRSP to TFSA. However, as Jean points out a ban on swapping altogether is far too punitive. Finance could have simply clarified how to value swaps and proscribed transactions they deem as not kosher.

http://www.financialwebring.org/forum/viewtopic.php?p=342538&sid=64e68e93ef1207fb2c6ca17e18c37ae0

http://canadianfinancialdiy.blogspot.com/2009/10/government-ban-on-rrsp-tfsa-swaps.html

By: Michael James

Michael James — Thu, 22 Oct 2009 18:15:35 +0000

I’ve seen a plausible explanation for banning swaps in a few places now including Canadian Financial DIY. If the swapper gets to choose any price in the day’s trading range after the fact, he can deliberately choose a low price when stock leaves the TFSA and a high price when the stock returns. This can’t be done when simulating a swap by buying and selling.

By: 0xcc

0xcc — Thu, 22 Oct 2009 14:22:15 +0000

Canadian Capitalist: When I say withholding tax I mean ‘tax withheld at source’. So after looking it up (http://www.taxtips.ca/rrsp/withholdingtax.htm) I see that the minimum withholding tax is 10% and it goes up to as much as 30% (I was thinking that the minimum was 0%). So the only benefit I can see is that if you want to not pay the 20% 0r 30% tax immediately you could do a transfer to the TFSA and then withdraw but in the end the income tax you owe wouldn’t change, just when you had to pay it would change.

By: Canadian Capitalist

Canadian Capitalist — Thu, 22 Oct 2009 14:14:12 +0000

0xcc: I’m not sure I understand your first comment. How would you get around the withholding tax? The moment you withdraw from a RRSP to contribute to a TFSA, you’ve triggered a taxable event.

I’ve never contributed GICs in-kind to registered accounts but I’d be very surprised if Chris’ idea works with GICs (and I’m pretty sure you can’t do with GICs. Bonds are very liquid and it is easy to obtain their market value). The current value of a GIC is not its purchase price. It is at least its purchase price plus accumulated interest. Otherwise, you could game the system with GICs even with RRSPs. You can buy compound interest GICs that pay interest on maturity and contribute in-kind to a RRSP a day before it matures. You can then shelter tax on interest to the future if the current value of GIC is taken as its purchase price!

By: 0xcc

0xcc — Thu, 22 Oct 2009 13:36:38 +0000

@Canadian Capitalist: If you take the suggestion that Chris makes and do it on something that only pays interest and doesn’t have any capital gains (like a GIC) and as long as the interest payout dates happen on a different day then you could double your tax free income. And you could do even more than double it if you structured a ladder-like GIC portfolio all with payouts in different months of the year (or even weeks of the year or if you wanted to get really tricky days of the year).

So imagine a portfolio of GICs worth a combined total of $60k and an average interest rate of 3% so in a given year you would have $1800 in interest. If you used just the TFSA for $5k of that you would shelter $150 of interest income. However, if each of those GICs payed the interest out in a different month of the year you could shelter the whole $1800 of interest if you did the swaps at the right time and your ‘effective’ rate of return in your TFSA is 36% (minus the swap fees of course). You could do the same thing with a bond portfolio (and get a better interest rate).

By: 0xcc

0xcc — Thu, 22 Oct 2009 13:26:22 +0000

Robillard brings up a very interesting point. It isn’t that interesting if you think about it today where the TFSA contribution limit is only $5k and will be $10k in a few months. However, if you cast your mind forward about 10 years this becomes a very, very interesting strategy. The TFSA limit would be at least $50k (assuming you haven’t contributed or haven’t made any profit in a TFSA account over the 10 years). On December 30 or 31 you could withdraw your whole TFSA and stick it in a taxable account. Then on January 2 you could swap $50k + $5k from your RRSP into your TFSA. I would expect that to generate a RRSP withdrawal though so you would have to pay tax on the actual withdrawal but maybe you would be able to get away without paying the 10% withholding tax, which I think you can get away without paying right now anyway by withdrawing less than $5k at a time. Of course you end up having to pay the full tax owed in April of the following year anyway and if you use this strategy for more than 2 years you will be asked to pay income tax by quarterly installments and if you don’t pay and you end up owing when you file your taxes you will have penalties to pay…

The loophole that I sort of see that Chris suggests is that swaps don’t impact contribution room (after all you are just moving equal amounts of cash or investments around). And as Chris suggests there is the potential to effectively double the income inside the TFSA by holding two interest paying instruments that pay out on different days and just swap one for the other. Again, this isn’t too big of an issue today but imagine in 10 years what you might be able to do with contribution room of $50k+.