Household spending in Canada rose by 3.3 per cent in 2007 compared to the year before. Prior to the economic and housing slowdown, households were happily spending faster than the annual rate of inflation, according to Statistics Canada. Now, with daily media reports reflecting a gloomy outlook for 2009, watch for piggy bank sales to soar as Canadians slow their spending and start saving.

In 2007, the last in a long run of record-setting years for existing home sales in Canada, shelter costs accounted for 20 per cent of the average household's budget, and rose by 5.1 per cent over the previous year. A 10.6 per cent jump in mortgage payments was the main reason for the increase.

But households also spent more on food (3.7 per cent), cell phones and hand-held messaging devices (9.3 per cent), and gasoline (6.9 per cent). In 2007, more people reported having computers, computer hardware, high-speed Internet, and CD and DVD writers than in 2006. One of the few categories to register a drop in spending was on household furnishings and equipment, which fell by 7.8 per cent.

In the coming year, the economic doldrums in the U.S. and Canada won't be helped by consumer spending, says a report by Avery Shenfeld and Benjamin Tal of CIBC World Markets. "The urge to save more and borrow less to repair shattered household balance sheets will be key in the economic hangover from the huge wealth loss associated with a steep drop in global equity and real estate valuations," say the authors.

"Preparing for retirement will now require setting aside a greater portion of income coming in for savings, not only for individuals, but by those running their pensions," they say.

In Canada, the savings rate (the percentage of after-tax income that isn't spent) stood at three per cent toward the end of last year, which was triple the U.S. savings rate. Shenfeld and Tal say Canada's savings rate will climb "as lending slows and setting money aside to restore bruised portfolios begins."

They say Canadians are generally in better shape than their U.S. neighbours because "the overall balance sheet was much less levered, with Canadians not as aggressive in borrowing against home equity. That means that a given decline in asset values will represent a smaller hit to net worth."

A new financial product now available in Canada is the tax-free savings account (TFSA). It allows contributions of up to $5,000 per year, and investment income earned can be withdrawn anytime, tax free. The contributions can be in the form of stocks, Canada Savings Bonds, GICs or various other market funds or savings accounts. Unused contribution room can be carried forward to subsequent years indefinitely, and funds that are withdrawn can be replaced.

Unlike a Registered Retirement Savings Plan (RRSP), contributions to TFSAs are not tax deductible. But for first-time home buyers, there may be some advantages to using a tax-free savings account to save for a down payment, rather than using the Home Buyer Plan that has been in place for several years. Under the Home Buyer Plan, a first-time buyer can borrow $20,000 from an RRSP, interest-free, for a down payment. This must be repaid within 15 years, or taxes paid on it. The withdrawal reduces the amount in the RRSP that is being saved for retirement.

With the TFSA, buyers still get the tax-free advantages and don't have to repay the loan. However, it may be faster to save in an RRSP, so first-time buyers should discuss the strategy with a financial advisor.

There has also been some criticism that some financial institutions are charging high fees to set up the tax-free accounts, or instituting such punitive penalties for early withdrawal that any tax savings are being lost. It pays to shop around.

A poll conducted last fall by RBC showed that more than half of those surveyed had not heard of the new TFSAs. Of those who planned to open an account, only eight per cent intended to reduce their RRSP contribution to put money into a TSFA instead.

"While Canadians continue to use RRSPs to save for retirement, the TFSA can supplement these savings while sheltering investment returns from tax," says Lee Ann Davis of RBC. "The TFSA allows Canadians the flexibility to save and invest for a variety of short-term and long-term financial goals."

The poll shows that 44 per cent of those planning to open an account planned to use it for long-term retirement savings. Forty per cent said they would use the account to save for an emergency, 29 per cent planned to use it for every day savings and 25 per cent were putting the money aside for a large or special purchase.

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