Jeanne Posey, Vancouver
In Afshar v Attorney General of Canada, the Federal Court found that a taxpayer’s misunderstanding of the taxation rules or ignorance of the tax-free savings account (TFSA) limits was not a reasonable error for purposes of obtaining a waiver of the penalty tax imposed on the taxpayer’s excess TFSA contributions.
The Court also found that the CRA officer’s decision to deny the taxpayer’s request for relief was reasonable and justified by the facts and the law.
Background and facts
In this case, the taxpayer sought a judicial review of a decision of the Minister of National Revenue. In the decision, a CRA officer declined to exercise their discretion to cancel or waive the tax assessed on her excess TFSA contributions, as well as interest and penalties imposed on the taxpayer for overcontributions.
The taxpayer opened a TFSA in 2010 but made no contributions until 2020, meaning she had accumulated contribution room of just over $68,000 at January 1, 2020. In that year, the taxpayer decided to do some investing using her savings and funds lent to her by family members. Throughout 2020, the taxpayer contributed a little less than $400,000 to her TFSA and made withdrawals of approximately $300,000, resulting in an over-contribution balance of approximately $29,000.
At the start of 2021, an additional $6,000 of contribution room became available, reducing the taxpayer’s overcontribution balance to approximately $23,000. There were no contributions or withdrawals from the taxpayer’s TFSA in 2021.
In July 2021, the CRA issued the taxpayer a TFSA Notice of Assessment (NOA) for the 2020 taxation year advising her that she owed $10,815 in tax based on the excess contributions to her TFSA, as well as a late penalty charge and arrears interest.
Six months after the issuance of the NOA, on January 12, 2022, the taxpayer requested that the CRA cancel the assessed tax and penalties on her excess TFSA contributions on the basis that she did not have enough information about the rules related to TFSAs and that she thought a TFSA operated in the same manner as a regular savings account.
On March 17, 2022, the CRA issued a letter to the taxpayer declining her request to cancel the tax, interest and penalties on the excess TFSA contributions. The letter outlined that the Minister has discretion to cancel all or any part of the tax, interest and penalties associated with an overcontribution to a TFSA, but the overcontribution must have been due to a reasonable error by the taxpayer and the taxpayer must have acted immediately to remove the overcontribution.
On July 26, 2022, the CRA issued a further NOA for the excess TFSA amount for the 2021 taxation year notifying the taxpayer that she now had a balance owing of $14,748, which included tax, interest and penalties relating to the excess balance from 2020 that had not been paid.
On August 17, 2022, the taxpayer requested a review of the initial decision, and a second CRA officer declined the taxpayer’s request for relief in a decision dated February 2, 2023. This second decision was the subject of the taxpayer’s application for judicial review.
Court’s analysis and decision
The issue before the Court was whether the CRA officer’s decision refusing the taxpayer’s request for tax relief was reasonable.
Under section 207.02 of the Income Tax Act (the Act), if a taxpayer has exceeded their contribution room at any time in a calendar month, they are liable to pay a tax of 1% on the highest excess TFSA amount in that month.
For example, TFSA contribution room for 2023 was $6,500. If on January 15, 2023, a taxpayer who had no unused contribution room from prior years contributed $5,000 to their TFSA and then on April 10, 2023 contributed a further $2,500, as of April 10, 2023, the taxpayer would have an overcontribution amount of $1,000 and would be subject to tax. The taxpayer must also file a special TFSA tax return by June 30 of the following year; if the return is filed late and the tax is paid after this date, late-filing penalties and interest also apply.
Subsection 207.06(1) of the Act provides the Minister with the discretion to waive or cancel all or part of the liability to the taxpayer if it can be shown that the liability arose as a consequence of a reasonable error, and that the taxpayer made one or more distributions without delay to remove the excess contribution from the account.
The taxpayer claimed that she was not made aware of the issue by way of an educational letter or provided any warning letters by the CRA regarding the excess contribution amount and the potential tax that would apply. She further contended that the use of parentheses in the drafting of the letter, which stated that her contribution room was ($22,990), was confusing and she had understood that to mean she had available contribution room of $22,990 rather than a negative balance denoting an excess contribution.
However, the Court noted that the July 2021 NOA explained the use of parentheses indicates a negative balance — meaning excess contribution — and the CRA’s initial letter did include commentary regarding the computation of the tax being equal to 1% of the highest excess TFSA amount in the month for each month that the excess amount remained in the taxpayer’s account.
The CRA officer was also bound by the conditions in subsection 207.06(1); therefore, for the Minister to exercise their discretion to cancel or waive penalties, they must be satisfied that the taxpayer’s error was reasonable and that the taxpayer took immediate steps to remove the excess contribution. Neither of these requirements were met in the case at hand.
The Court concluded that the officer’s decision was reasonable and a taxpayer’s own misunderstanding of taxation rules or ignorance regarding TFSA contribution limits is not, on its own, a reasonable error.
Additionally, despite the taxpayer having received two NOAs from the CRA, she failed to withdraw her excess contributions “without delay.”
While the Court noted that the rules governing TFSAs are strict and the calculation of tax on TFSA overcontributions is complicated, a taxpayer’s lack of knowledge or misunderstanding of these rules does not render the CRA’s discretionary decision not to grant tax relief under subsection 207.06(1) of the Act unreasonable.
Lessons learned
Each year on January 1, taxpayers’ annual contribution room for a TFSA resets. The maximum contribution room for 2024 is $7,000. Generally speaking, the TFSA annual contribution limit is indexed for inflation and rounded to the nearest $500.1
Before you contribute to your TFSA, you should confirm your available contribution room using your own financial records. If you use the CRA's services (e.g., My Account) to check your contribution room, pay close attention to the freshness date of the information and be sure to make adjustments for any subsequent transactions you have made.
It is ultimately the taxpayer’s responsibility to keep track of TFSA transactions to ensure contributions do not exceed allowable contribution limits.2 Any funds you withdraw from the TFSA are added to your contribution room in the next year. This means you can recontribute all withdrawals in any subsequent year without affecting your allowable annual contributions. Recontribution in the same year may result in an overcontribution, which would be subject to a penalty tax.
Furthermore, as evidenced by the Court’s decision in this case, the Minister is only able to exercise its discretion to waive or cancel interest and penalties where an excess TFSA contribution is removed without delay. Therefore, if you discover you’ve made an excess contribution in error, it is important to act quickly to withdraw the excess amounts. The taxpayer must also show that the tax arose as a result of a reasonable error — it is clear from the finding in this and other cases that ignorance of the TFSA rules does not constitute reasonable error.3