Small-Print TFSA Rules Affecting U.S. Stocks

The Tax-Free Savings Account (TFSA) is one of the best wealth-building tools available to Canadians. Tax-free growth. Tax-free withdrawals. No impact on government benefits.

But when it comes to U.S. stocks, there’s fine print many investors overlook — and it can quietly reduce your returns.

Before loading your TFSA with American blue chips or high-yield dividend stocks, here are three rules that could materially affect your portfolio that you should know.

The 15% dividend withholding tax

The biggest surprise for many investors is that U.S. dividends in a TFSA are not fully tax-free.

Because the TFSA is not recognized under the Canada–U.S. tax treaty, dividends paid by U.S. companies are subject to a 15% non-recoverable withholding tax. That tax is automatically deducted by the Internal Revenue Service (IRS) before the dividend even hits your account.

Capital gains remain tax-free — but income investors feel the drag.

For example, if you hold Comcast (NASDAQ:CMCSA), which yields roughly 4.2%, the actual yield inside a TFSA falls to about 3.6% after the 15% withholding tax. On a $500 annual dividend, you’d only receive $425.

The same rule applies to Canadian-listed exchange-traded funds (ETFs) that hold U.S. stocks. For instance, Vanguard S&P 500 Index ETF still faces the same U.S. dividend withholding at the fund level.

How to respond? Consider placing high-yield U.S. dividend stocks inside a Registered Retirement Savings Plan (RRSP) or Registered Retirement Income Fund (RRIF), where the treaty exempts them from withholding tax. Meanwhile, quality growth-focused names that pay little or no dividends — such as Amazon — may better suit a TFSA.

Currency conversion: The hidden cost of trading foreign stocks

Another overlooked drag comes from foreign exchange fees.

When you buy U.S. stocks using Canadian dollars, most brokerages charge a currency conversion spread of 1.5% to 2% — on top of trading commissions. If you trade frequently, these costs quietly compound.

There are two practical solutions.

First, consider opening a U.S. dollar-denominated TFSA. This allows you to convert currency once, then trade U.S. securities without repeated foreign exchange charges.

Second, some investors use Canadian depositary receipts (CDRs), which trade in Canadian dollars and provide built-in currency hedging. While convenient, investors should understand the structure and embedded costs before relying on them long term. It may make sense to use CDRs if the stock you want to invest in is available there and U.S. dollars are strong against Canadian dollars. 

Currency friction may seem minor, but over decades, minimizing it can meaningfully boost compounded returns.

The day-trading trap

Finally, the TFSA is designed for investing — not active trading.

If the Canada Revenue Agency (CRA) determines that your activity resembles “carrying on a business” — meaning frequent, speculative trading — your gains could become fully taxable.

There is no clear rule defining how many trades trigger scrutiny. Instead, the CRA considers factors such as frequency, holding period, knowledge of markets, and intent. In short: treat your TFSA like a long-term compounding machine, not a trading account.

Investor takeaway

The TFSA remains an exceptional tool — but U.S. stocks introduce nuances that investors shouldn’t ignore:

• U.S. dividends face a 15% non-recoverable withholding tax.
• Currency conversion fees can erode returns if not managed.
• Excessive trading risks losing the TFSA’s tax-free status.

Used wisely, a TFSA can still be an ideal home for growth-oriented U.S. stocks. But understanding the small print ensures you keep more of what your investments earn — which, over time, can make a surprisingly large difference.

The post Small-Print TFSA Rules Affecting U.S. Stocks appeared first on The Motley Fool Canada.

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More reading

• 3 Canadian Dividend Stocks for Passive Income That Keep Growing
• The Best TSX Stocks to Buy Now if You Want Both Income and Growth
• The Ideal Canadian Stocks to Buy and Hold Forever in a TFSA
• Got $10,000? Buy This Dividend Stock for $55 in Monthly Passive Income
• 3 TSX Stocks Set to Drive Canada’s 2026 Nation-Building Efforts

Fool contributor Kay Ng has positions in Amazon. The Motley Fool recommends Amazon. The Motley Fool has a disclosure policy.