First Home Savings Account – A new best friend for younger investors

Residential housing in Canada has significantly risen in value over the years. While this has benefited current homeowners, it has been a curse for many young (and not so young) Canadians wanting to buy their first home.

To help fix this, the Federal Government created the First Home Savings Account (FHSA) in the 2022 Federal Budget. This plan allows first-time homebuyers to save for a down payment on a tax-free basis. Like a registered retirement savings plan (RRSP), contributions to an FHSA are tax-deductible. And like a tax-free saving account (TFSA), withdrawals to purchase a first home are non-taxable.

Opening and contributing to an FHSA

To open an FHSA, an individual needs to confirm to an issuer that they are a “qualifying individual.”

To do this, they need to establish that they are:

• a resident of Canada: and

• at least 18 years of age: and

• a first-time home buyer, meaning that they have not owned a qualifying home (explained below), that they have lived in as a principal residence, individually or jointly with a spouse or a common-law partner, at any time in the year the account is opened or the preceding four calendar years.

An FHSA has an annual contribution limit of $8,000 and a lifetime limit of $40,000. 

Contributions to an FHSA can be made in cash, or through a transfer from an RRSP (see section on Cessation and Transfers below).

The equivalent of one year of unused FHSA contribution room can be carried forward once an individual has started their participation period by opening their first FHSA. The FHSA carry forward amount is limited to $8,000.

Thus, an individual contributing less than $8,000 in a year can contribute the unused amount (i.e., $8,000 less their contribution in that year) in a subsequent year on top of their annual contribution limit of $8,000 (subject to their lifetime contribution limit). 

For example: an individual that contributes $6,000 to an FHSA in 2026 would be allowed to contribute $10,000 in 2027 (i.e., $8,000 plus the remaining $2,000 from 2026).

Tax deductibility

Individuals can claim an income tax deduction for contributions made up to their annual limit, except for a contribution that is transferred from an RRSP. The deduction doesn’t affect the individual’s RRSP contribution room, nor does a transfer from an RRSP reinstate the individual’s RRSP contribution room. It’s important to note that unlike RRSPs, contributions made within the first 60 days of a given calendar year can’t be deducted in the previous year’s tax return. 

Individuals are not required to claim a deduction for the tax year in which a contribution is made. Like an RRSP, such contributions (although reported in the tax year) can be carried forward and deducted in a later tax year, subject to certain restrictions. For example, an individual is prevented from deducting contributions made after a qualifying withdrawal (see definition below) has been made.

The FHSA holder is the only taxpayer permitted to claim deductions for contributions made to their FHSA. Individuals can’t contribute to their spouse or common-law partner's FHSA and claim a deduction.

Penalty for over contributions

Like the case for a tax-free savings account (TFSA), a special tax applies on excess FHSA contribution amounts.

To summarize, an excess FHSA amount is determined by a formula. In principle, this is simply the total of an individual's actual FHSA contributions and transfers (from an RRSP) at a particular time, less the individual's contribution limits at that time.

This tax is imposed monthly and equals one per cent of the highest excess FHSA amount during each particular month. The deadline for a person to file the prescribed form and remit the penalties in respect of a calendar year is June 30 of the following year. This special tax applies until such time as the excess FHSA amount is eliminated. 

An individual's excess FHSA amount can be eliminated or reduced by making taxable withdrawals or by designating an amount for withdrawal or transfer using a prescribed form. When an amount is designated, an individual can correct an excess FHSA contribution by essentially reversing a contribution or a transfer from an RRSP.

As well, when a taxpayer's annual contribution limit is reset at the beginning of each calendar year, over-contributions from a previous year may cease to be an over-contribution. A taxpayer is allowed to deduct an over-contributed amount for a previous year in the tax year in which it ceases to be an over-contribution but not earlier. However, if a qualifying withdrawal is made before an over-contribution is no longer an over-contribution, no deduction can be made for the over-contributed amount.

Investment options

An FHSA can hold "qualified investments" similar to those that can be held in a TFSA or RRSP, for example. However, should an FHSA hold a property that is not a qualified investment, a penalty equal to 50% of the fair market value of the property would apply.

Tax-free growth

Similar to the TFSA, the income earned within the FHSA is not taxed, but with a few additional stipulations – provided that:

• the account holder continues to meet the necessary conditions and timelines and;

• the money in the account is used to purchase a qualified home or directly transferred to the account holder’s RRSP or RRIF. 

Qualifying withdrawals

An individual can make a tax-free "qualifying withdrawal" to purchase a first home if all the following conditions are met:

• The withdrawal is made using a prescribed form that sets out the location of the “qualifying home” that the individual has begun using as, or intends to occupy as, a principal residence within one year of acquisition,

• The individual is a resident in Canada from the time of the withdrawal to the acquisition of the “qualifying home” and is a first-time home buyer, 

An individual counts as a first-time home buyer for this purpose where, during the four calendar years preceding the particular year in which the withdrawal was made, and in the period in the particular year ending 31 days before the withdrawal was made, the individual did not live in a home that they owned.

• Before the withdrawal, the individual has signed an agreement to purchase or construct the “qualifying home” before October 1 of the year following the year of the withdrawal, and

• The individual did not acquire the “qualifying home” more than 30 days before the withdrawal is made.

A qualifying home is a housing unit located in Canada. A share in a co-operative housing corporation that entitles the holder to own and have an equity interest in a housing unit located in Canada, also qualifies. However, a share that only provides a right to tenancy in the housing unit doesn’t qualify.

Provided the individual meets the qualifying withdrawal conditions, the entire balance in their FHSA can be withdrawn on a tax-free basis in a single withdrawal or a series of withdrawals.

If an individual has made a qualifying withdrawal and a balance remains in the FHSA, they have two options:

• The balance can be transferred on a tax-free basis to an RRSP or registered retirement income fund (RRIF) until December 31 of the year following the year of their first qualifying withdrawal, provided it is a direct transfer to a plan where the individual is the annuitant, or

• The balance can be withdrawn and included in their income for tax purposes in the year of the withdrawal.

The FHSA and Home Buyer’s Plan (HBP)

The HBP continues to be available under the existing rules. An individual  can make both an FHSA withdrawal and an HBP withdrawal in respect of the same qualifying home purchase. Since HBP allows first-time homebuyers to withdraw up to $60,000 from an RRSP to buy a home, a homebuyer maximizing both programs could potentially access $100,000 in capital, plus any growth accumulated in the FHSA, for a down payment.

Cessation and transfers

There is a limit to the period of time that an FHSA can remain open (the "maximum participation period"). An individual's maximum participation period begins when the individual opens their first FHSA. It finishes at the end of the year following the year in which the earliest of the following events occur:

• the 14th anniversary of the date the individual first opened their FHSA,

• when the individual turns 70 years old, and

• the individual first makes a qualifying withdrawal from an FHSA.

For example, if a 20-year-old individual opened an FHSA in 2023, their maximum participation period will conclude at the end of 2038 (i.e., the 14th anniversary of the date since the opening of the FHSA is in 2037 and the end of the year following that year is 2038). However, if that individual makes a qualifying withdrawal from their FHSA during 2028, their maximum participation period will conclude at the end of 2029.

Once an FHSA is past that maximum participation period, it is no longer exempt from tax on the income earned within the account. In that year, the account holder must include in their income for the taxation year an amount equal to the fair market value of all property of the FHSA immediately before the FHSA lost its tax-free status.

Any savings not used to purchase a qualifying home can be transferrable on a tax-free basis into an RRSP or a RRIF in which the individual is the annuitant and provided the transfer is a direct transfer, without requiring RRSP contribution room, or it would have to be withdrawn and is taxable in that year. Such transfer or withdrawal must be completed by December 31 of the year following the year of the first qualifying withdrawal.

If an individual has made a qualifying withdrawal, any unwithdrawn amounts still held in the FHSA can also be transferred on a tax-free basis to an RRSP or RRIF until December 31 of the year following the year of their first qualifying withdrawal.

It is possible for an individual to have more than one FHSA and to transfer funds directly from one FHSA to another FHSA on a tax-free basis.

Note that funds transferred from an FHSA to an RRSP or RRIF are subject to tax upon withdrawal from the RRSP or RRIF, similar to any other withdrawals from those accounts. Individuals are allowed to transfer funds directly from an RRSP to an FHSA on a tax-free basis, subject to the FHSA annual and lifetime contribution limits. Such transfers are not deductible and don’t reinstate an individual's RRSP contribution room. Finally, transfers from an individual's RRSP to their FHSA are not possible on a tax-free basis if a spousal contribution has been made to the RRSP in the current year or two preceding years.

Breakdown of a marriage or a common-law partnership

In case of the breakdown of a marriage or a common-law partnership, any amount held in the FHSA is transferrable directly from the FHSA of one party to the relationship (the transferor). This includes an FHSA, RRSP, or RRIF of the other party to the relationship (the transferee), provided it is pursuant to a decree, order, or judgement of a competent tribunal or under a written agreement, relating to a division of property in settlement of rights arising from their marriage or common-law partnership. Such transfers don’t re-instate any contribution room of the transferor and can’t be counted against any contribution room of the transferee.

FHSA at death

An FHSA will cease, at the latest, to be an FHSA at the end of the year following the year of death of the last holder. After that, the FHSA is no longer exempt from tax on the income earned within the account.

Any individual, including the estate of the FHSA holder, who receives a distribution from the FHSA shall include the amount in computing their income for the year. Under certain circumstances, an election will be available, to shift the tax liability from the holder's estate to a beneficiary of the estate.

If no individual has been named beneficiary to the FHSA, the deceased individual's estate is considered the beneficiary and the fair value of the FHSA will be included in the deceased estate's income.

If a beneficiary to the FHSA has been named by the holder, the law requires that they include in their income for the year the fair market value of the FHSA. If the surviving spouse or common law partner (CLP) has been named as a beneficiary of the FHSA, they will be able to transfer the fair market value of the deceased FHSA, minus any excess contribution, directly to an FHSA in their own FHSA or to their RRSP or RRIF, without needing contribution room.

Such inherited FHSAs would assume the surviving spouse's maximum participation period.

If, however, the surviving spouse is not eligible to open an FHSA (they are not a qualifying individual), the FHSA can instead be transferred directly to their RRSP or RRIF or withdrawn on a taxable basis.

If the beneficiary of an FHSA isn’t the deceased's spouse or common-law partner, the funds can be withdrawn and paid to the beneficiary. Amounts paid to the beneficiary can be subject to withholding tax and included in the income of the beneficiary for tax purposes in the year received.

Similar to a Tax-Free Savings Account (TFSA), individuals are permitted to designate their spouse or common-law partner as the successor holder. If named as the successor holder, the surviving spouse can become the new holder of the FHSA immediately upon the death of the original holder provided the surviving spouse meets the eligibility criteria to open an FHSA.

In Québec, naming Successor holder (or a beneficiary) is only possible if the account is held in a segregated fund contract.

If the surviving spouse or common law partner isn’t a qualifying individual (see definition in first section), the law prohibits the surviving spouse/CLP from becoming the owner of the account. They must either transfer the deceased FHSA property directly into their RRSP or RRIF or receive a taxable distribution from the deceased holder's FHSA.

If the holder of an FHSA has not named their spouse or common-law partner as a beneficiary or Successor holder of the account, but has instead bequeathed the account to a surviving spouse/CLP in their will, the legal representative of a deceased holder's estate and the surviving spouse/CLP can jointly designate, using a prescribed form, to have the FHSA proceeds that were paid to the estate treated as having been transferred from the FHSA of the deceased holder to an FHSA, RRSP or RRIF of the survivor. All subject to meeting certain conditions. As a result, the legal representative doesn’t need to include the amount received in computing the income of the estate. Such a disposition allows for an indirect tax-free rollover of the deceased FHSA to the surviving spouse/CLP FHSA.

Alternatively, the legal representative of a deceased holder's estate and the surviving spouse/CLP can jointly designate, using a prescribed form, to have the FHSA proceeds that were paid to the estate treated as having been paid directly to the surviving spouse/CLP as a beneficiary. In that case, the amount will be included in the surviving spouse/CLP’s income for the year in which the survivor received the payment. As a result, the legal representative doesn’t need to include the amount received in computing the income of the estate.

Such options allows for some tax planning between the deceased and the surviving spouse/CLP.

Miscellaneous rules

As is the case for an RRSP, RRIF, and TFSA, an investor isn’t allowed to deduct fees for the administration or management of their FHSA or for advice in connection with purchasing or selling securities in respect to an FHSA. Similarly, interest paid on money borrowed by an individual to contribute to an FHSA isn’t deductible.

Attribution rules don’t apply when a person gifts money to a spouse or common-law partner and that spouse or common-law partner uses those funds to contribute to an FHSA opened in their name. And, when a withdrawal is made from the FHSA, no portion of such withdrawal is attributed back to the spouse who made the gift.

The Income Tax Act prevents using an FHSA as security for a loan. Should a taxpayer pledge an FHSA as security for a loan, the fair market value of the FHSA at the time of the loan is to be included in the account holder’s income in the year.

Taxpayers are allowed to contribute to an existing FHSA after emigrating from Canada but can’t make a qualifying withdrawal -to buy a property- as a non-resident. A taxpayer making a qualifying withdrawal from an FHSA must be a resident of Canada at the time of withdrawal and up to the time a qualifying home is bought or built. Withdrawals by non-residents are subject to a non-resident withholding tax of 25%.

Finally, contrary to RRSPs and RRIFs, FHSAs are not afforded creditor protection under the Bankruptcy and Insolvency Act.

Conclusion

Combining the best of both an RRSP (deductibility of contributions) and a TFSA (tax-free withdrawal) when used to buy a first property, the FHSA can become the preferential tool for young (and not so young) Canadians to accumulate savings.

Used in conjunction with the HBP, it can allow a prospective first-home buyer to accumulate a sizeable amount for a down payment. Furthermore, even if the sums accumulated in the FHSA are not used to acquire a property, they can eventually be transferred into an RRSP or RRIF, thus indirectly allowing an individual to enhance their retirement savings.

Whether you plan to buy a home or not, what’s not to like?

Information contained in this article is provided for information purposes only. It’s not intended to provide or be a substitute for professional, financial, tax, insurance, investment, legal or accounting advice and should not be relied upon in that regard. It also does not constitute a specific offer to buy and/or sell securities. You should always consult your financial advisor or tax specialist before undertaking any of the strategies discussed in this article to ensure that all elements and your personal circumstances are taken into consideration in developing your individual financial plan. Information contained in this article has been compiled from sources believed to be reliable, but no representation or warranty, express or implied, is made with respect to its timeliness or accuracy and SLGI Asset Management Inc. disclaims any responsibility for any loss that may arise as a result of the use of the strategies discussed.