Housing affordability is a clear issue in Canada's housing market. As of March 2022, the average price to buy a home in Canada was $796,068. This means you'd need savings of $67,379 at minimum to cover your down payment and closing costs. As housing prices continue to rise, as well as mortgage rates across Canada, so does the required minimum savings. Assuming an interest rate of 3.50%, you'd also need an income of at least $102,564 to meet stress testing requirements.
Considering this is out of reach for many millennials, the federal government has created new policies to help Canadians buy their first home. In the 2022 budget announcement, the federal government announced the intention to ban foreign homebuyers from purchasing residential real estate across Canada.
While this will cool the growth in housing prices, it doesn't address unaffordability. The government has proposed a new tax shelter to help you save for a down payment to fix this issue. This program is known as the First Home Savings Account (FHSA), which combines the best tax benefits of a TFSA and RRSP. This article will help you understand everything you need to know about the FHSA and how to best use it to buy a home.
The FHSA is a proposed tax shelter account that allows you to save and invest for your home down payment. Like RRSP contributions, any deposits into the account will be deducted from your taxable income. As a result, FHSA contributions lower your annual income tax. Additionally, you will not need to pay capital gains tax on the amount you withdraw from the account to fund your home purchase.
While the FHSA has a similar tax benefit to the RRSP First-Time Homebuyers' Program (HBP), the primary difference is that you will not need to make payments back into the account. The RRSP HBP can be seen as borrowing from yourself, while the FHSA is a self-grant. You can not combine both programs to fund your down payment. This means you must choose to borrow $35,000 from your RRSP or your entire FHSA balance.
However, you will only benefit from tax-free FHSA withdrawals if using the proceeds to buy your first home. You must also buy a home within 15 years of opening the account. Otherwise, the account will be transferred into your RRSP for retirement savings.
|First Home Savings Account||RRSP Home Buyers’ Plan||TFSA|
|Deduct Contributions From Income|
|Tax Free Growth|
With Home Purchase
|Up to $35,000 With Home Purchase|
|Must Pay |
|Account Expiry Date|
The First Home Savings Account was recently announced in April 2022. The account can be opened in early 2023 and will have similar functionality to your RRSP and TFSA. You will be able to open an account with partnering financial institutions, which may include online trading platforms and brokerages. The following section details everything the government has mentioned about the FHSA.
The FHSA is designed to benefit first-time homebuyers in Canada. To open an FHSA account, you must be between 18 and 40. Additionally, you must be a resident of Canada who hasn't owned a home in the past four years or the year you open your account. You can open multiple accounts but it won't increase your contribution limits.
There is a lifetime contribution limit of $40,000 or $8,000 annually. For example, if you maximize annual contributions of $8,000 per year, your account will reach the lifetime limit in five years.
Unlike the TFSA, unused contribution room doesn't roll over into the following year. This means if you contribute $4,000 one year, you won't be able to contribute $12,000 the next year. Any unused contribution room is lost forever, and it will take longer to reach your lifetime $40,000 limit.
Note that the limits are for contributions and not your overall FHSA balance. Any return on investments earned will not affect your contribution limit. Additionally, you can contribute your whole FHSA balance to your home down payment without incurring capital gains tax.
You can make FHSA contributions for 15 years after opening the account. While the penalties for overcontributing to your FHSA have not been announced yet, it's expected they will be similar to the TFSA and RRSP. This means the amount you overcontribute will be subject to a penalty of 1% each month.
Any contributions to your FHSA will directly lower your taxable income. For example, if you make $100,000 but contribute $8,000 to your FHSA, you only need to pay income tax on $92,000. Combining contributions with your RRSP will let you significantly reduce your annual income tax.
Although the FHSA program is expected to start in 2023, we can use the 2021 tax year rates to calculate the income tax savings. In the 2021 tax year, an Ontario resident with a gross income of $100,000 was required to pay $27,511. However, with a maximum FHSA contribution, they would only need to pay $24,437 in taxes. In this scenario, an $8,000 contribution saves $3,074 in income taxes. This is a risk-free ROI of 38.43%.
You can transfer from your RRSP or TFSA into your First Home Savings Account without triggering any taxes. However, you must ensure you are not exceeding FHSA contribution limits.
You will not be able to deduct RRSP transfers from your income taxes. This is because you already received a tax deduction on your RRSP contributions. However, there is no tax deduction for TFSA contributions, so transferring from your TFSA into your FHSA will allow you to lower your taxable income.
Transferring from a TFSA to FHSA could be a good strategy if you can't contribute $8,000 in one year but want a home soon. This is because TFSA withdrawals roll over while FHSA doesn't. For example, if you withdraw $4,000 from your TFSA this year, you can contribute an additional $4,000 in the future. This is not true for the FHSA. By transferring from your TFSA to FHSA, you will receive an income tax deduction, and you can re-contribute to your TFSA in the future. Any missed FHSA contributions do not roll over into the following year.
As of right now, it appears you will be eligible to invest in any of the same assets as an RRSP or TFSA. This means you can use your FHSA to hold individual stocks, ETFs, Mutual Funds, Bonds, Gold, and more.
Withdrawals from your FHSA will not incur taxes if you use the proceeds to purchase your first home. When you are ready to access your FHSA balance, you must submit a purchase and sale agreement to your financial institution. At this point, you will receive the funds and will not need to pay taxes on it.
However, you can still withdraw from your FHSA for non-home purchases but must pay taxes on the proceeds. For example, imagine you earn $100,000 but withdraw $10,000 from your FHSA to pay off student debt. Your taxable income would increase to $110,000, and you would need to pay an extra $4,341 in income taxes.
Your FHSA expires 15 years after opening it. If you don't purchase a home within 15 years, your FHSA balance will be contributed to your RRSP. This transfer will not overcontribute your RRSP balance. However, once this transition happens, you will be limited to the First-Time Homebuyers' Program to fund your down payment.
If you choose not to buy a home, the standard RRSP rules apply. You will be required to turn your RRSP into an RRIF before 71. At this point, you must make withdrawals from your RRIF.
As a rule of thumb, you should transition to holding safer investments as you get closer to buying a home. This is because there is less chance of wild price swings. For example, if you have an all-stock portfolio, a 10% drop could set you back a few years while waiting for a price rebound. Meanwhile, real estate prices may continue to increase.
Additionally, you don't want to be forced to sell at a loss because you are nearing the 15-year FHSA expiry. The following investments could be a good strategy depending on how close you are to purchasing a home
|Time Until Home Purchase||Recommended FSHA Holdings|
|Less than one year:||High-interest savings account, GICs|
|One to three years:||Short to mid-term government bonds|
|Three to five years:||70% Bonds and 30% low-risk stocks|
|Five to ten years:||Blue-chip stocks, REITs|
|More than ten years:||Stock market index fund|
Note that this is a suggestion and not financial advice. Your FHSA portfolio allocation may vary with your risk tolerance. If you do not want to adjust your portfolio manually, a good approach could be investing in a target-date fund. While these funds are designed for retirement, they will automatically adjust to risk-averse investments as your target date nears. This will save you trading fees and the hassle of rebalancing your portfolio. You can also use calculators such as our GIC calculator to predict your future FHSA balance. If you are selling stock from the United States, make sure to use Norbert's Gambit to reduce exchange rate fees.
The FHSA is a great tool for first-time homebuyers to save on income taxes and fund their down payment. However, careful planning is required as it comes with specific timelines that can impact your savings strategy. To learn more about the FHSA and how to make the most of it, i’ts best to speak with a financial advisor.