What is the Tax-Free First Home Savings Account (FHSA)

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First Home Savings Account (FHSA) is a tax shelter through which the Canadian government subsidizes home purchases. This subsidy takes the form of a tax credit. If you qualify for this program, it is beneficial even if you have no plan for purchasing a home. FHSA can add $40,000 to your RRSP account, enabling you to move your income from higher-earning years to lower-earning years. This income transfer allows you to save on your income tax.

Housing affordability is a clear issue in Canada's housing market. As of March 2023, the average price to buy a home in Canada was $668k. This means you'd need savings of $67k at minimum to cover your mortgage down payment and CMHC insurance premium. You should also put aside some money for covering your closing costs. Any rise in housing prices or mortgage rates across Canada results in higher required minimum savings.

Considering this is difficult for many Canadians, 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.

The government 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.

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The FHSA is a 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 income tax. Additionally, you do not need to pay income tax on the amount you earn from investments in your FHSA.

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 combine both programs to fund your down payment. This means you can borrow $35,000 from your RRSP in addition to using your entire FHSA balance.

You have 15 years from opening your first FHSA or until you turn 71 years, whichever occurs earlier, to use your FHSA. If you have not purchased it by then, you can either withdraw your money and pay income tax on it or transfer it to your RRSP with no tax consequence.

	First Home Savings Account	RRSP Home Buyers’ Plan	TFSA
Deduct Contributions From Income
Tax Free Growth
Tax-Free Withdrawals	With Home Purchase	Up to $35,000 With Home Purchase
Must Pay Withdrawals Back Into Account.
Account Expiry Date

The FHSA is designed to benefit first-time homebuyers in Canada. To open an FHSA account, you must be of the age of majority. Additionally, you must be a resident of Canada who has not lived in a home belonging to you or your partner in the past four years. You can open multiple FHSA accounts, but it won't increase your contribution limits.

Maximizing FHSA Contributions Ending Balance

Assuming 6% Annual ROI

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There is a lifetime contribution limit of $40,000 and an annual limit of $8,000. For example, if you contribute the maximum allowed amount of $8,000 per year, your account will reach the lifetime limit in five years.

Unlike the TFSA or RRSP, all your unused contribution room doesn't roll over into the following year. FHSA has a maximum of $8,000 for carryforward amounts. This means if you contribute $4,000 one year, you can contribute $12,000 the next year. If you made no contributions for three years after opening your first FHSA, you could contribute a maximum of $16,000 during the fourth year.

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. The penalty for overcontributing to your FHSA is 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 lets you significantly reduce your income tax.

Although the FHSA program started in 2023, we can use the 2021 tax year rates to calculate its potential 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 into your First Home Savings Account without triggering any taxes. However, you must ensure you are not exceeding FHSA contribution limits. Such a move might be useful if you need to use your RRSP to fund your downpayment more than possible by using HBP. Otherwise, such a move would consume your limited FHSA contribution room without providing any benefit in return.

You can not deduct RRSP transfers from your income taxes. This is because you already received a tax deduction on your RRSP contributions.

Moderate FHSA Contributions Ending Balance

Assuming $4,000 Annual Contribution, 6% Annual ROI

You can invest in any of the same assets as an RRSP. This means you can use your FHSA to hold money (for example, in a savings account), guaranteed investment certificates, individual stocks, ETFs, Mutual Funds, Bonds, and more.

Qualifying withdrawals from your FHSA will not incur taxes. A qualifying withdrawal occurs if

• You fill out the form RC725.
• You are a first-time home buyer.
• Your purchase or build agreement came into force over the past 30 days.
• You close the deal or complete the building by October 1st of the following year.
• You are and remain a resident of Canada until you close the deal.
• The purchased or built home becomes your principal residence within one year of closing.

Any withdrawal other than a qualifying withdrawal is taxable. You can 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.

You should close your FHSA by the end of the year when one of the following occurs

• 15 years have passed since the opening of FHSA.
• You turn 71.
• First anniversary of your home purchase.

You can transfer your FHSA balance to your RRSP or make a taxable withdrawal. This transfer will not overcontribute to your RRSP balance.

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

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.