For several years now the housing market has been running red hot. Prices seem to continue to rise and more and more people continue to get priced out of the housing market. Although the market seems to have cooled down slightly, over the last 12 months the monthly number of transactions (35,410), and the average sale price ($656,625) are up 5% and 2% respectively. To combat the housing market crisis, the Canadian government has started the First Home Savings Account (FHSA). It is sure to be the answer we have all been waiting for and is here to solve the unaffordability issue many Canadians face! Or is it?
The Tax-Free First Home Savings account was originally introduced in the 2022 budget. However, the original presentation left finance professionals with many questions and concerns about how it would eventually be implemented (Check out our initial thoughts on the TFHSA). To no one’s surprise, updates and changes needed to be made. Now the account is available at most financial institutions and a lot of those questions and concerns have been addressed.
Before getting into the rest of the article, if you enjoy our content we would greatly appreciate it if you could like this article and leave a comment down below. Also, don’t forget to click the follow button so you never miss out on new content.
FHSA Background
As mentioned earlier, the First Home Savings Account was originally introduced in the 2022 budget. It is a new registered plan that allows prospective first-time home buyers to save $40,000 (plus growth) on a tax-free basis for an eventual home purchase.
The mechanics of the account can be thought of as a combination of the Tax-Free Savings Account (TFSA) and the Registered Retirement Savings Account (RRSP), specifically the Home Buyers Plan (HBP) provision within the RRSP. You should be able to go to your normal financial institution and have an account opened, assuming you qualify.
Opening and Closing A First Home Savings Account
Two criteria must be met for an individual to be eligible to open a First Home Savings Account:
- The individual must be at least 18 years of age, and
- The individual must be a first-time home buyer, meaning that they have not owned a home in which they lived at any time during the part of the calendar year before the account was opened or at any time in the preceding four calendar years. This would include their spouse or common-law partner.
An FHSA would cease to be an FHSA and an individual would not be permitted to open an FHSA, after December 31 the year in which the earliest of these events occurs:
- The fifteenth anniversary of when the individual first opened an FHSA; or
- The individual turns 71 years old.
- The year following a qualifying withdrawal.
First Home Savings Account Contributions
The FHSA has a lot of the benefits of both TFSAs and RRSPs. You may be wondering how.
When funds are contributed to the First Home Savings Account, you receive an income tax deduction. In this way, the FHSA works the same as an RRSP with contributed funds. For example, if you had an income of $70,000 and made your maximum annual contribution of $8,000, you would receive an income tax deduction for the full $8,000. This means you would only have to pay tax on $62,000.
However, unlike RRSPs, there isn’t a 60-day contribution window in the following year. If you want the tax deduction in a particular year, the contribution must be made in that calendar year. There is a lifetime contribution limit of $40,000, with an annual contribution limit of $8,000.
The income tax deduction you receive does not have to be claimed in the contribution year. The tax deduction can be carried forward indefinitely and deducted in a later tax year.
Whereas the TFSA contribution room starts accumulating at age 18, the FHSA contribution room only starts accumulating once the account is opened. Any unused contribution can be carried forward up to a maximum of $8,000. For example, you open an account in 2023 and contribute $4,000. In 2024, you would be able to contribute $12,000. If no contribution is made in 2024, you would only be able to carry forward $8,000 of that $12,000 into 2025, giving you a maximum allowable contribution of $16,000 in 2025.
An individual is eligible to have more than one FHSA, however, the contribution limit applies across all accounts. Funds inside an FHSA are permitted to be invested in the same investments eligible for TFSAs. This means eligible investments would include mutual funds, ETFs, publicly traded securities, bonds, GICs, etc.
It is important to note that although you may have more than one FHSA if you over-contribute you will be subject to a hefty penalty. The penalty is the same as with TFSAs; 1% per dollar over-contributed per month of over-contributions.
Withdrawals from a First Home Savings Account
A withdrawal could either be a qualifying or non-qualifying withdrawal. For it to be considered qualifying, the following conditions must be met:
- The taxpayer must be a first-time home buyer. There is an exception where a withdrawal is made within 30 days of moving into their home.
- The taxpayer must also have a written agreement to buy or build a qualifying home before October 1 of the year following the year of withdrawal and intend to occupy the qualifying home.
- A qualifying home would be a unit located in Canada.
If the above criteria are met, the withdrawal would be done tax-free, and the full value of the FHSA could be withdrawn.
Non-qualifying withdrawals are included in the taxpayer’s taxable income. The financial institution would be required to collect and remit holding tax on non-qualifying withdrawals. Non-qualifying withdrawals would not reinstate either the annual contribution limit or the lifetime contribution limit.
Regardless of the withdrawal type, the individual must be a resident of Canada at the time of withdrawal and up to the time a qualifying home is bought or built.
It is important to note that the RRSP Home-Buyers Plan continues to be available. Furthermore, a first-time home buyer would be able to utilize both the RRSP Home-Buyers Plan and the FHSA.
First Home Savings Account Transfers
Once you have a first home savings account opened, you may decide to change financial institutions. If that is the case FHSA assets can be transferred between institutions on a tax-free basis. Furthermore, if you decide not to buy a house, you can transfer the FHSA assets to an RRSP/RIF tax-free. Not only that but these transfers would not reduce, or be limited by, an individual’s available RRSP contribution room.
People who have not bought a house yet are essentially given an additional $40,000 of RRSP contribution room!
FHSA Treatment on Death
Just like the TFSA, a First Home Savings Account holder can designate their spouse as the successor holder of the account. This would allow the account to maintain its tax-exempt status and allow the spouse to inherit the utilized FHSA contribution room. If the deceased spouse had contributed $20,000 to the FHSA, the inheriting spouse would receive that without any impact on their FHSA contribution room, assuming they meet the eligibility requirements to open an FHSA. Inherited FHSAs would assume the surviving spouse’s closure deadline.
If the surviving spouse does not qualify for an FHSA, the assets could be transferred to an RRSP/RRIF tax-deferred or could be withdrawn on a taxable basis.
If the beneficiary is not the spouse, the beneficiary would receive the assets and they would be included in their taxable income for that year. In this case, the payment would be subject to withholding tax. This is different than an RRSP where upon the account holders passing, the proceeds are taxable to the estate.
Difference Between FHSA and HBP
You may be thinking, “What are the differences between the FHSA and the RRSP HBP?” You would be right to think that as there are a lot of similarities. However, there are several key differences. One difference with the FHSA is that there are no spousal contributions. This means that the spouse making the contribution is the one who gets the tax deduction. Whereas, with a spousal RRSP a spouse can make a contribution in their spouse’s name, and receive the tax deduction personally.
Another difference, and likely a more beneficial one, is that withdrawals from the FHSA do not have to be repaid. On the other hand, when withdrawals are made under the RRSP HBP, the amount withdrawn has to be paid back over 15 years, starting 2 years after the withdrawal. This means if you withdraw the maximum of $35,000 under the home-buyers plan, you have to start making payments of $2,333.33/annum, two calendar years after the withdrawal.
Another important difference is the amount that can be withdrawn. Under the RRSP home-buyers plan, a maximum of $35k can be withdrawn. Under the First-Home Savings Account, in theory, there is no maximum withdrawal. You can contribute a maximum of $40k and you can withdraw the $40k and any growth on top of that. Therefore, if that $40k grows to $100k, you could withdraw that full $100k tax-free for a home purchase.
Potential Loopholes with the FHSA
You may be thinking that this is a great account but that it is really only for young Canadians who have never been in the housing market. Although, the FHSA may have been designed with those people in mind, it could be beneficial to others. Let’s look at some potential situations where an FHSA could be beneficial in a non-standard use case.
A Couple Getting Married
There is a a couple about to get married, one partner owns a house that they live in, the other partner does not own a property. In this case, the partner that does not own a property should open the FHSA prior to getting married. The qualifying test is done at the time of the account opening and does not need to be met on an ongoing basis.
So since at the time of account opening the partner didn’t own a property, they would qualify to open the account, and post marriage the account could stay open. Thus, the contributions can continue.
A Person Who Rents but Owns several Rentals
A person who owns several rental properties but rents the house they live in and hasn’t lived in a house they have owned for more than 5 years. This person would also qualify for the FHSA. They would be able to open the FHSA and make the $40,000 of lifetime contributions. Similar to the example above, even if they move into a place they own, the account would be able to remain open.
Purchase Falls Through
In some situations, the purchase of a property falls through. However, if the purchaser already has a signed agreement to purchase the property, the withdrawal from the FHSA could be processed before the deal falls through. If after the withdrawal is complete, the purchase falls through, it does not affect the withdrawal. As long as a purchaser had a signed agreement to purchase at the time of withdrawal, it can be completed.
This may open the door to potential schemes where people come to agreements to purposefully have the purchase fall through just so they can withdraw the money from the FHSA tax-free. Although this may be creative, if CRA catches on, there could be hefty penalties.
Conclusion
The FHSA offers a lot of benefits to those who are eligible. However, one has to wonder if there was a more efficient way to bring about the same outcome. Did they really have to create a new account? Or, could they have modified the RRSP Home Buyers Plan? Rather they added 20 pages to the income tax act and seemed to have caused a little bloating to the system.
There is some healthy skepticism around whether the FHSA will make any difference in housing affordability. Based on past housing incentives and a study out of the UK there is a very real possibility that the FHSA will just cause a dollar-for-dollar increase in housing prices. Sure, it may help affordability at the onset, but eventually, it could just push housing prices up even more.
We are also on social media now, click the social icons in the top right corner and follow us on Facebook, Instagram, and LinkedIn.
Share your thoughts with us!
If you enjoy the forbeswealthblog content please like, comment, and share it with your friends. Also, click the follow button on the right side to follow our blog for great original content every week.
Visit: www.forbeswealth.ca
Disclaimer: This Forbes Wealth Blog is for informational purposes only and does not constitute financial, legal, or tax advice of any kind. Please consult your legal, accounting, tax, investment, banking, and life insurance professionals to get precise advice relating to your particular situation before acting upon any strategy