Blog Country Specific Expat Tax Situations

TFSA for U.S. Citizens in Canada: What You Need to Know About the Tax Trap

The name says “Tax-Free.” According to the Canada Revenue Agency, over 16 million Canadians hold TFSAs worth more than $400 billion combined. For Canadian residents, every dollar of investment growth remains completely tax-free.

But here’s what catches thousands of Americans living in Canada by surprise: the U.S. doesn’t recognize TFSAs as tax-free at all.

Why This Matters: A Real Example

Imagine a Canadian puts $10,000 in a TFSA and invests it. Over five years, it grows to $15,000 (a $5,000 gain). Canadian tax on that $5,000 growth? $0. They withdraw $15,000 completely tax-free. This is why TFSAs are so popular in Canada.

Now imagine an American living in Canada does the exact same thing. From Canada’s perspective, it’s still tax-free ($0 Canadian tax). But the IRS says: “We don’t care that Canada calls it ‘tax-free.’ You owe us tax on that $5,000 growth.” The American reports $5,000 as taxable income and pays approximately $750-$1,000 in U.S. tax.

The brutal part: You can’t even claim a Foreign Tax Credit because Canada didn’t tax the income. You’re paying U.S. tax on income that was supposed to be “tax-free.”

If you’re a U.S. citizen or green card holder with a TFSA, you face U.S. tax on all earnings, complex reporting requirements, and potential penalties starting at $10,000 per year for missed forms. The good news? Once you understand how TFSAs work for U.S. tax purposes, you can make informed decisions that protect you from unexpected tax bills and compliance headaches.

Worried Your TFSA Is A U.S. Tax Trap?

Tell us about your TFSA balance, investments, and how long you have held the account. A Greenback expert will show you your U.S. tax exposure, required forms, and whether it makes sense to keep, close, or move funds to an RRSP.

What Is a TFSA?

Canada introduced the Tax-Free Savings Account in 2009 as a flexible savings vehicle for Canadian residents age 18 and older with a valid Social Insurance Number. Despite the name, TFSAs function as investment accounts that can hold:

Cash savings
Guaranteed Investment Certificates (GICs)
Mutual funds
Stocks and bonds
Exchange-traded funds (ETFs)

Canadian Tax Treatment:

Contributions are not tax-deductible
All investment income grows tax-free
Withdrawals are completely tax-free
2025 annual contribution limit: $7,000
Lifetime cumulative limit for those eligible since 2009: $102,000

Unused contribution room carries forward indefinitely, and withdrawn amounts can be re-contributed the following year.

Why TFSAs Create Problems for Americans

The U.S.-Canada Tax Treaty provides specific protections for Canadian RRSPs, but TFSAs receive no treaty protection whatsoever. The treaty is completely silent about TFSAs – it doesn’t mention them at all. This creates a fundamental problem: what Canada calls “tax-free” has no special meaning to the IRS.

The Core Problem:

The IRS treats your TFSA exactly like any regular Canadian brokerage account. Every dollar of interest, dividends, or capital gains you earn is fully taxable on your U.S. return. The word “Tax-Free” in the account name is meaningless to U.S. tax law.

Why You Can’t Use Foreign Tax Credit:

Normally, when you pay tax to Canada on investment income, you can claim a Foreign Tax Credit on your U.S. return to avoid double taxation. But with a TFSA, Canada doesn’t tax the income (that’s the whole point for Canadians). Since there’s no Canadian tax paid, there’s no foreign tax to credit against your U.S. tax bill. You end up paying U.S. tax on income that was supposed to be tax-free.

The Additional Complication:

Many tax professionals treat TFSAs as foreign trusts for U.S. purposes, which triggers complex trust reporting requirements (Forms 3520 and 3520-A). While the IRS has never officially declared TFSAs as foreign trusts, the lack of clear guidance means most practitioners take the conservative approach of filing trust forms to avoid potential penalties starting at $10,000 per year.

How TFSAs Compare to RRSPs

Understanding the TFSA-RRSP difference is crucial for Americans in Canada:

Feature	RRSP	TFSA
U.S. Treaty Protection	Yes (since 2014)	None
Tax Treatment	Deferred until withdrawal	Taxed annually
Foreign Tax Credit Available	Yes (on withdrawals)	No (no Canadian tax paid)
Trust Reporting (Forms 3520/3520-A)	Not required	Debated (most file conservatively)
Investment Growth	Tax-free until withdrawal	Fully taxable each year
Double Taxation Risk	Low (treaty + FTC)	High (no treaty, no FTC)

Key Insight: RRSPs work well for Americans because the treaty defers U.S. tax, and when you eventually withdraw, you can use the Foreign Tax Credit for Canadian withholding. TFSAs have neither protection – you pay U.S. tax every year on growth, and you can’t credit any Canadian tax because Canada didn’t charge you any.

For detailed RRSP guidance, read our complete guide on Canadian RRSPs for U.S. expats.

U.S. Tax Reporting Requirements for TFSAs

When you hold a TFSA as a U.S. citizen or green card holder, you face multiple reporting obligations:

1. Annual Income Reporting (Form 1040)

What You Report:
All investment income generated within your TFSA must be reported on your annual U.S. tax return:

Interest income: Schedule B
Dividends: Schedule B
Capital gains: Schedule D

The Problem:
This is where TFSAs become a tax trap. Canada doesn’t tax this income (that’s the entire point of a TFSA). But since there’s no Canadian tax paid, you can’t claim a Foreign Tax Credit to offset your U.S. tax. You end up paying U.S. tax on income that Canadians get completely tax-free.

Real Example:

Sarah has a TFSA worth C$55,000 that generates C$2,500 in investment income (a 4.5% return).

In Canada:

Tax on C$2,500: $0 (it’s tax-free)
Sarah keeps: C$2,500

In the U.S.:

Convert to U.S. dollars at average exchange rate: $1,850
Report $1,850 as taxable income on Form 1040
Calculate U.S. tax at 20% federal bracket: $370
Check if Foreign Tax Credit applies: No (Canada charged $0 tax, so nothing to credit)
Sarah’s actual U.S. tax owed: $370

The Result: Sarah pays $370 in U.S. tax on income that was supposed to be “tax-free.” If she had invested the same money in a regular Canadian brokerage account instead, Canada would have taxed the income, and she could have used the Foreign Tax Credit to eliminate or reduce her U.S. tax. The “tax-free” TFSA actually costs her more than a taxable account would have.

2. Foreign Trust Reporting (Forms 3520 and 3520-A)

The Debate:
The IRS has never officially declared TFSAs as foreign trusts. Some tax professionals have successfully argued at IRS Appeals that TFSAs are simply custodial investment accounts, not trusts. However, the lack of clear IRS guidance creates significant uncertainty.

If Filing Trust Forms:

Form 3520-A (Foreign Trust Return):

Filed by the “foreign trust” (your TFSA)
Due date: March 15
Extension available: File Form 7004 by March 15 to extend to September 15
Penalty for late filing: Greater of $10,000 or 5% of account value

Form 3520 (U.S. Person’s Foreign Trust Report):

Filed by you as the account owner
Due date: Same as your Form 1040 (including extensions)
Penalty for late filing: Greater of $10,000 or 5-35% of account value (depending on transaction type)

Take Note

In practice, you typically prepare Form 3520-A yourself (as the trust’s “trustee”) and attach it to your Form 3520. Your Greenback accountant can handle this preparation for you.

3. PFIC Reporting (Form 8621)

If your TFSA holds Canadian mutual funds or similar investments, you face additional complexity:

The Problem:
Canadian mutual funds are typically classified as Passive Foreign Investment Companies (PFICs) under U.S. tax law. PFICs receive punitive tax treatment designed to eliminate any benefit of tax deferral.

What You Must Do:

File Form 8621 for each PFIC held in your TFSA
Report income using complex PFIC calculation methods
Pay tax at ordinary income rates (not lower capital gains rates)
Potentially pay interest charges on deferred gains

Example:
James holds three Canadian mutual funds in his TFSA. He must:

File three separate Forms 8621 (one per fund)
Calculate excess distributions using IRS formulas
Pay tax at his highest marginal rate on all gains
Potentially pay interest charges

Pro Tip: Because of PFIC complexity, many Americans in Canada choose to hold only individual stocks, bonds, or ETFs in their TFSAs rather than mutual funds.

4. FBAR (FinCEN Form 114)

Your TFSA counts as a foreign financial account for FBAR purposes.

Filing Requirement:
If the aggregate value of all your foreign accounts exceeds $10,000 at any time during the year, you must file an FBAR.

Important Details:

Due date: April 15 (automatic extension to October 15)
Filed electronically through FinCEN’s BSA E-Filing System
Penalties for non-filing: $16,536 per year (non-willful) or up to 50% of account balance (willful)

Example:
Maria has a TFSA worth $8,000 and a Canadian checking account with $3,500. Her combined balance of $11,500 exceeds the $10,000 threshold, so she must file an FBAR reporting both accounts.

Learn more about FBAR filing requirements.

5. FATCA (Form 8938)

If your foreign financial assets exceed certain thresholds, you must also file Form 8938 with your tax return.

Thresholds for Americans Living in Canada:

Single: $200,000 on last day of year OR $300,000 at any time during year
Married filing jointly: $400,000 on last day of year OR $600,000 at any time during year

Penalty for Non-Filing:

Initial: $10,000
Continuing failure: Additional $10,000 for each 30-day period (up to $50,000)

For a detailed comparison of FBAR vs. FATCA requirements, see our guide on FBAR vs. Form 8938.

Should I Open or Contribute to a TFSA?

The answer depends on your specific situation and long-term plans:

When a TFSA Might Still Make Sense

Scenario 1: Using the Foreign Earned Income Exclusion
If you qualify for the FEIE and exclude your Canadian income up to $130,000 (2025), contributing to a TFSA could work:

Your Canadian salary is already excluded from U.S. tax
Investment gains in the TFSA are taxable, but you’re in a lower effective U.S. bracket
You maintain flexibility to withdraw funds tax-free in Canada

Example:
David earns C$80,000 in Canada and uses the FEIE to exclude it from U.S. taxation. His TFSA generates $2,000 in annual gains. He pays U.S. tax only on the $2,000 investment income, not his salary.

Scenario 2: Small Account Balances
If you have a small TFSA generating minimal investment income, the tax cost might be manageable:

TFSA worth $10,000 generating 4% return = $400 taxable income
U.S. tax at 22% bracket = $88 per year
Compliance burden might outweigh tax savings of closing the account

Scenario 3: Planning to Become a Canadian Resident Only
If you plan to renounce U.S. citizenship or give up your green card, a TFSA becomes fully tax-free once you’re no longer a U.S. person.

When You Should Avoid TFSAs

Scenario 1: High Account Balances
Large TFSAs create substantial compliance costs:

Annual trust reporting (if filing Forms 3520/3520-A)
Complex PFIC calculations if holding mutual funds
Significant U.S. tax on investment growth
Professional tax prep fees can exceed $1,000+ annually

Scenario 2: Holding Canadian Mutual Funds
PFIC reporting makes mutual-fund-heavy TFSAs particularly burdensome. Consider these alternatives instead:

Individual stocks or ETFs (not PFICs)
Canadian government bonds
Cash and GICs
Regular taxable Canadian investment accounts (at least you get Foreign Tax Credit)

Scenario 3: You’re Using Foreign Tax Credit Strategy
If you’re not using the FEIE and instead claiming Foreign Tax Credits for Canadian income tax paid, a TFSA undermines this strategy:

TFSA generates no Canadian tax to credit against U.S. tax
Regular taxable Canadian accounts generate creditable foreign tax
The Foreign Tax Credit often eliminates all U.S. tax on Canadian investment income

The Irony: For many Americans in Canada, a regular taxable Canadian investment account actually results in lower overall tax than a “tax-free” TFSA. Here’s why:

Regular Canadian Brokerage Account:

Canada taxes investment income at ~25-35%
You claim Foreign Tax Credit on U.S. return
Foreign Tax Credit often eliminates or reduces U.S. tax
Net result: You pay only Canadian tax

TFSA:

Canada charges 0% tax
You pay full U.S. tax (no Foreign Tax Credit available)
Net result: You pay U.S. tax with no offset

Learn more about Foreign Tax Credit strategies.

What If I Already Have a TFSA?

If you already hold a TFSA, you have three main options:

Option 1: Keep It and Stay Compliant

Best For: Small accounts generating minimal income where closing costs exceed ongoing tax costs

Requirements:

Report all investment income annually
File all required forms (Forms 3520/3520-A if applicable, FBAR, Form 8938 if applicable, Form 8621 if holding mutual funds)
Consider switching investments to avoid PFIC reporting
Work with a tax professional familiar with TFSA compliance

Estimated Annual Cost:

Professional tax prep: $500-$1,500+ (depending on complexity)
U.S. tax on investment income: Varies based on account performance and your tax bracket

Option 2: Stop Contributing But Keep Existing Balance

Best For: Moderate accounts where you want to preserve investment growth without adding complexity

Strategy:

Cease all new contributions
Let existing investments continue to grow
Maintain all required reporting
Consider this if you’re planning to renounce citizenship or give up green card status in the near future

Option 3: Close the Account

Best For: Large accounts or accounts invested heavily in Canadian mutual funds (PFICs)

Considerations:

Withdrawals are tax-free in Canada
You’ll still owe U.S. tax on any gains realized upon sale
One-time tax hit may be preferable to annual compliance burden
Closed accounts must still be reported for the year they were open

Example:
Jennifer has a TFSA worth C$75,000 with C$25,000 in unrealized gains. She:

Sells all investments and withdraws the funds
Reports $18,500 (USD equivalent) in capital gains on Schedule D
Pays approximately $2,775 in U.S. capital gains tax (15% rate)
Eliminates ongoing compliance costs of $1,200+ per year
Saves $8,425+ over five years after accounting for one-time tax

Option 4: Transfer to an RRSP (If Eligible)

Some Americans in Canada transfer TFSA funds to an RRSP to gain treaty protection:

Benefits:

RRSPs receive automatic U.S. tax deferral (no annual tax on growth)
No Form 3520/3520-A required for RRSPs
Simpler ongoing compliance

Considerations:

You need contribution room in your RRSP
RRSP withdrawals are taxable in both countries (but Foreign Tax Credit typically eliminates double tax)
You lock funds until retirement (early withdrawal penalties apply)

Read our detailed guide on U.S. tax treatment of Canadian RRSPs.

Common Mistakes Americans Make with TFSAs

Avoid these pitfalls that can lead to unexpected penalties:

Mistake 1: Assuming “Tax-Free” Means No U.S. Reporting

The Problem: Many Americans contribute to TFSAs without realizing they create U.S. filing obligations.

The Fix: Before opening a TFSA, understand all U.S. reporting requirements and factor in compliance costs.

Mistake 2: Not Filing FBAR Because Other Accounts Are Small

The Problem: FBAR uses an aggregate threshold. Your $8,000 TFSA plus $2,500 checking account exceeds the $10,000 requirement.

The Fix: Track all foreign accounts throughout the year. If the combined total ever exceeds $10,000, file an FBAR.

Mistake 3: Investing in Canadian Mutual Funds

The Problem: Canadian mutual funds trigger complex PFIC reporting on Form 8621.

The Fix: If you keep your TFSA, invest only in individual stocks, bonds, ETFs, or cash to avoid PFIC complications.

Mistake 4: Not Seeking Professional Help

The Problem: TFSA compliance is complex. DIY filing often leads to missed forms or incorrect reporting.

The Fix: Work with a tax professional who specializes in U.S.-Canada cross-border taxation. The cost of professional help is far less than potential penalties.

Mistake 5: Failing to Report TFSA When Applying for Streamlined Filing

The Problem: If you’re catching up on late U.S. tax filings through Streamlined Procedures, you must report all foreign accounts including TFSAs.

The Fix: Include complete TFSA information when filing delinquent returns. Omitting accounts can disqualify you from penalty relief.

Learn more about catching up on late U.S. tax filings.

TFSA Penalties: What You Risk

Understanding potential penalties helps you weigh the importance of compliance:

Form 3520/3520-A Penalties (If Required):

Minimum: $10,000 per form per year
Maximum: Up to 35% of account value for certain violations
Applies even if you owe no income tax

FBAR Penalties:

Non-willful: $16,536 per unreported account (2025)
Willful: Greater of $165,353 or 50% of account balance
Criminal penalties possible for willful violations

Form 8938 Penalties:

Initial: $10,000
Continuing: Additional $10,000 for each 30-day period (up to $50,000)

Form 8621 (PFIC) Penalties:

No direct monetary penalty for late filing
But unfiled Form 8621 keeps statute of limitations open indefinitely
Can result in loss of favorable tax elections

Important

Penalties can often be abated for reasonable cause. If you have unreported TFSAs, don’t delay getting compliant. The IRS offers various penalty relief programs for taxpayers who correct mistakes before being contacted.

Your Action Plan

Here’s what to do based on your situation:

If You Don’t Have a TFSA Yet:

Evaluate alternatives first: Consider whether an RRSP, taxable Canadian account, or U.S. retirement account better suits your needs
Calculate the total cost: Factor in annual tax preparation fees ($500-$1,500+) plus U.S. tax on earnings
Consult a cross-border tax professional before opening an account
If you proceed: Keep detailed records of all contributions, earnings, and investment changes

If You Have a Small TFSA (Under C$20,000):

Ensure compliance: File all required forms (Forms 3520/3520-A if applicable, FBAR, Form 8938 if applicable)
Simplify investments: Switch out of Canadian mutual funds to avoid PFIC reporting
Consider stopping contributions to prevent the account from growing
Monitor costs: If annual compliance costs exceed account benefits, consider closing

If You Have a Large TFSA (Over C$50,000):

Get professional help immediately: Large accounts create substantial compliance obligations
Calculate break-even point: Compare ongoing compliance costs vs. one-time tax cost of closing
Consider closing: For accounts heavily invested in mutual funds, closing may be your best option
Explore RRSP transfer: If you have contribution room, transferring to an RRSP provides better U.S. tax treatment

If You Haven’t Been Reporting Your TFSA:

Don’t panic: Many Americans in Canada didn’t know about TFSA reporting requirements
Get current immediately: Use the IRS Streamlined Filing Procedures to catch up with reduced or eliminated penalties
Gather records: Collect statements showing all contributions, withdrawals, and year-end balances
Contact a tax professional: Specialized help ensures you file correctly and minimize penalties

Learn more about the Streamlined Filing Procedures.

Dual Filing: Coordinating U.S. and Canadian Returns

Most Americans in Canada must file tax returns in both countries. Greenback simplifies this process:

Greenback’s Dual Filing Service:

Single document upload through secure portal
We work with trusted Canadian tax partners
Coordinated preparation of both returns
Ensures consistency across both filings
Optimized tax strategies for dual filing

Learn more about our dual U.S. and Canadian tax filing process.

How Greenback Can Help

The intersection of U.S. and Canadian tax law is complex. That’s why we’ve helped over 23,000 expats navigate these exact situations with confidence.

What Makes Greenback Different:

Accountants experienced in U.S.-Canada cross-border taxation
Partnership with trusted Canadian tax professionals
Comprehensive TFSA compliance (all forms prepared correctly)
Strategic advice on whether to keep, close, or modify your TFSA
Transparent flat-fee pricing

Our 4.9-star rating across 1,200+ TrustPilot reviews reflects our commitment to making dual-country tax filing as simple as possible for Americans in Canada.

Ready to Get Compliant?

No matter how late, messy, or complex your return may be, we can help. If you’re ready to be matched with a Greenback accountant, click the get started button below. For general questions on expat taxes or working with Greenback, contact our Customer Champions.

Turn This TFSA Guide Into A Clear Action Plan.

You have the facts. Now let our cross border team build a step by step plan for your TFSA: keep, close, or adjust, which forms to file, and how to limit U.S. tax and penalties over the next few years.

Canada-Specific Guides:

Key Tax Concepts:

Compliance Help:

This article provides general information about TFSA tax treatment for U.S. citizens and green card holders in Canada. It is not intended as tax advice for your specific situation. Tax laws are complex and change frequently. The Form 3520/3520-A filing requirement for TFSAs remains a subject of professional debate, as the IRS has not issued definitive guidance on whether TFSAs constitute foreign trusts. For personalized advice based on your circumstances, please consult with a qualified cross-border tax professional.

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