Your FHSA contribution limit: Avoid these five common mistakes

While there are a few programs to help first-time homeowners save for a down payment, the most popular option available to Canadians is the First Home Savings Account (FHSA). This account combines the more attractive features of a Registered Retirement Savings Plan (RRSP) and a Tax-Free Savings Account (TFSA), creating a powerful tool to help you grow your down payment savings.

As with other registered accounts, there are important rules to be aware of before you get started. Here’s everything you need to know about the five most common FHSA mistakes and how you can avoid them. 

Who’s eligible to open an FHSA?

To open an FHSA, you must be a Canadian resident who is at least 18 years old (or the age of majority in your province or territory) but no older than 71. You must also be considered a first-time homebuyer.

The government considers you to be a first-time homebuyer if you, or your spouse or common-law partner, haven’t owned a qualifying home that you lived in as your principal residence over the past four years. That said, if you or your spouse own a home that hasn’t been your primary residence like a rental property or a seasonal cottage, you could possibly still qualify.

What is the contribution limit for an FHSA?

The FHSA allows you to contribute up to $8,000 per year, up to a lifetime limit of $40,000. If you max out your contributions every year, you’ll hit the lifetime limit after five years. (And the more you save now, the more time those dollars will have to grow.) No matter how much you put into the account, once you’ve opened your FHSA, you’ll have up to 15 years (or until December 31of the year you turn 71 years old) before you must withdraw your savings.

Common mistakes

The rules sound simple enough, but there are some common mistakes that can trip up even the savviest saver. Here are five FHSA mistakes to avoid:

1. Overcontributing to your FHSA

Like an RRSP, one of the benefits of using an FHSA is that your contributions are tax-deductible, helping you lower your overall tax bill. However, if you exceed your available contribution room, your FHSA will be subject to a 1% penalty per month on the excess amount until it’s withdrawn.

For example, if you contributed $10,000 in the first year of opening your FHSA ($2,000 more than you’re allowed to contribute in a year), you’ll owe $20 each month until you either remove the excess amount or your contribution room increases on January 1 of the following year.

If you do overcontribute, you can withdraw the excess amount without paying income tax. You can also transfer those extra dollars to your RRSP or Registered Retirement Income Fund (RRIF), as long as you have unused contribution room in those accounts.

2. Not maximizing your FHSA contribution room

You also don’t want to underutilize your contribution room. That’s because FHSA contributions are tax-deductible, meaning any contributions you make lower your taxable earnings. This means you could be eligible for a refund on your income tax, which you could then put back into the FHSA for even more savings.

Anything you earn within the account grows tax-free, which can help your money compound faster. You also don’t pay any tax on your withdrawals if the funds are used for a qualifying home purchase. By not maxing out your FHSA contribution limit, you may miss out on these money-saving perks.

3. Worrying about the 15-year duration

When you open an FHSA, you start the 15-year countdown to when you must use the funds. Ideally, after a decade and a half of saving, you’ll be ready to withdraw your funds to make a qualifying home purchase. But if you decide that you’re not ready to buy a home after that time or it’s no longer your priority, you can transfer your savings tax-free to an RRSP or a RRIF, even if you don’t have available contribution room in those accounts.

However, it’s still important to keep this deadline in mind. Opening an FHSA as soon as you’re eligible means your savings will have more time to grow, potentially increasing the likelihood that you’ll be financially ready to buy your first home in your early 30s.

4. Not understanding the FHSA carry forward rules

If you don’t use your full contribution room in a year, you can carry forward the unused portion. For example, if in the first year you open your FHSA and contribute $6,000, your available contribution room in the following year would be $10,000.

However, you can only carry forward a maximum of $8,000. If you opened the account and didn’t make any contributions for the first two years, you would only have $8,000 available to carry forward, not $16,000. That also means that in a single year you cannot contribute more than $16,000 (your $8,000 annual contribution room and $8,000 of unused contribution room).

The longer you delay contributing to the account, the less time your investments have to grow. Remember, contribution room only accumulates once the account has been opened.

5. Confusing FHSA benefits with those of RRSPs

With an RRSP, you have the option of contributing to your spouse or common-law partner’s plan, but this isn’t the case with FHSAs. Contributions to an FHSA can only be made and deducted by the FHSA holder. However, you and your spouse can both open an individual FHSA and combine the savings for a first home purchase, provided you are both considered first-time homebuyers. A spouse can also give money to their partner to contribute to an FHSA.

The bottom line

By understanding the common FHSA mistakes, you can stay clear of any missteps and unlock the full potential of your contribution limit. The FHSA, paired with the guidance of a financial advisor, can be a powerful way to make your homeownership dreams a reality.