Tax-Efficient Investing with Examples

[Allen32]

I came across this article on another forum that you may find interesting:
Tax-Efficient Investing-finiki (www.finiki.org/wiki/Tax-Efficient_Investing)

It's one of the better ones that I have come across that shows everything in one place and provides a few examples of how asset allocations can be distributed to be most tax efficient.

[philharmonic]

Thanks, that whole wiki is amazing.

[jt05mi]

So after a skim of that article, I am thinking I should be pulling my canadian dividend stocks out of my TFSA.

Correct?

PS. Thanks OP!

[FunSave22]

The article should have made it clearer that it was assuming you did not have enough space in your registered accounts to hold all of your investments.


For example, if all of the investments you hold fit in your TFSA, then you likely want to keep holding the Canadian dividend stocks in your TFSA. It's only if you don't have enough room in your registered accounts and need to hold something in a non-registered account, then the Canadian dividend stocks are probably your best choice of what to move to the non-registered account.

[Stryker]

So after a skim of that article, I am thinking I should be pulling my canadian dividend stocks out of my TFSA.

Correct?

PS. Thanks OP!

There's nothing wrong with keeping Canadian dividend stocks in a TFSA. It's just that you miss out on the dividend tax credit available on a taxable portfolio plus not being able to claim a tax loss on any stocks that are down from the price you originally bought them.

[FunSave22]

It's just that you miss out on the dividend tax credit available on a taxable portfolio plus not being able to claim a tax loss on any stocks that are down from the price you originally bought them.
This is all true, but is probably outweighed by the benefits of a TFSA.

For example, in Ontario if your taxable income is over $39k you are still going to pay taxes on eligible dividends in a non-registered account, even after the dividend tax credit is taken in account. And if your income is less than $39k, the overall result after the tax credit will only be very slightly better than a TFSA.

http://taxtips.ca/taxrates/on.htm



And of course while you can't claim capital losses in a TFSA, you also don't have to claim capital gains. If you have a diversified portfolio you would hope in the long term you are going to end up with a capital gain and not a capital loss.

[cmackie]

Yeah, it's all relative. Let's say you only have investments in TFSA and nowhere else. You'll pay 0 tax on your dividends and gains. If you chose to put the same investments in a non-registered cash or margin account, you'll pay tax.

If you have a number of registered accounts including TFSA and RRSPs that are maxed out along with non-registered accounts, then it pays to look at which investments will incur the most taxes and whether to move some around. Think in terms of total dollars instead of percentages. 100% of interest may be taxable, but your dividends and capital gains may still incur more total dollars. Of course you should also look at taxes paid now versus taxes to be paid when withdrawing.

[Stryker]

I couldn't come close to fitting my Canadian dividend growth portfolio into a TFSA. You're not going to get much diversification on a $20,000 TFSA, unless it's in a dividend ETF, and after getting burned on the U.S. ones in an RRSP in 2008-09, I keep away from them now.

[ACC-Major]

I didn't read the article yet but I am sure there isn't much to add from the following common knowledge.
1) keep us dividend paying stocks in your RRSP, not in your TFSA because you will never get those withholding tax back. If your RRSP is full, put them in your non registered account to get some FTC.

2) If you are in the lowest tax bracket, you won't get taxed for receiving Canadian dividends because tax credit can offset it completely; therefore, putting them in the non register account is the best. Capital gains will get taxed regardless of tax bracket; therefore, they should be in registered accounts such as TFSA and RRSP.

3) Always max your RRSP contribution lol.

[boipinoi604]

After a couple of hours looking into this canadian taxing system, what I understood is that if I am in a low income tax bracket, I can reduce the taxes I need to pay by having dividends in my registered account? Also, according to BCs income tax on taxtips.ca, my taxes on dividends are -6%, what does it mean by a negative tax?

[FunSave22]

After a couple of hours looking into this canadian taxing system, what I understood is that if I am in a low income tax bracket, I can reduce the taxes I need to pay by having dividends in my registered account? Also, according to BCs income tax on taxtips.ca, my taxes on dividends are -6%, what does it mean by a negative tax?
In many provinces, but not all, eligible Canadian dividends will be negatively taxed if you are in a low tax bracket.

So if you are in the low tax bracket in BC and have $100 of eligible dividends, the government will owe you $6 when you file your taxes. So if you already expected a refund, the refund will increase by $6. And if you expected to owe money, the amount of money you owe will be reduced by $6.

[FunSave22]

1) keep us dividend paying stocks in your RRSP, not in your TFSA because you will never get those withholding tax back. If your RRSP is full, put them in your non registered account to get some FTC.
If you are in a high tax bracket and have room in your TFSA but no room in your RRSP, it makes more sense to store US dividend stocks in your TFSA instead of the non-registered account. Here are the numbers quickly worked out:


Assume 40% marginal rate.
Assume US dividend withholding of 15% (meaning you have a W8BEN on file with your broker).
Assume you received US$100 of dividends.



In TFSA


The US government will withold 15% of your dividend. So your end result will be $85.





In non-registered account
(I'm reasonably certain these calculations are correct, but someone please correct me if I'm wrong)


The US government will withold 15% of your dividend. So your resulting dividend will be $85. And you will received a $15 foreign tax credit.
The Canadian government will tax the resulting $85 at 40%. Meaning you will pay $34 in income tax.
The foreign tax credit will reduce your income tax to $19. ( 34 - 15 = 19)
Your end result will be $66. ( 85 - 19 = 66 )



So just looking at dividends, the TFSA is better for US stocks than a non-registered account. And this doesn't even take into account the possibility of not paying capital gains inside the TFSA.






2) If you are in the lowest tax bracket, you won't get taxed for receiving Canadian dividends because tax credit can offset it completely; therefore, putting them in the non register account is the best. Capital gains will get taxed regardless of tax bracket; therefore, they should be in registered accounts such as TFSA and RRSP.
Once again, dividend stocks can still generate capital gains when you sell them. So if you have room in your TFSA or RRSP it probably makes sense to place them there. Only if you don't have room and are deciding what to put where, does it probably make sense to place Canadian dividend stocks in a non-registered account.





3) Always max your RRSP contribution lol.
If you are currently in a low tax bracket and expect to stay there the rest of your life this is bad advice. People in this situation would likely be better off to maximize their TFSA and make no contributions to their RRSP.

[jt05mi]

Ok heres my situation...currently making 50k/year, not expected to stay here the rest of my life...I have room in my TFSA for Canadian dividend stocks, what would you recommend?

[Cerenity]

i think (not 100% sure also) the taxation on US dividends is applied to the full amount, not the amount after the withholding. that way, the end result tax paid is same as if it were income (cdn govt taxes you for $40 on $100 but you already paid $15, so owe $25 to cdn govt, total tax is still $40)

additionally, if you place USD dividends inside TFSA, you are displacing CDN dividends, so the difference is not as large as illustrated. at the 40% bracket, assuming equal displacement, its a few %. above that, its 1-2%. (ie: $100 US div in TFSA + $100 CDN div in non-reg vs $100 US div in non-reg + $100 CDN div in TFSA)


back checking this with the tax table indicates the above makes sense, since ratio of normal income tax vs eligible CAD dividend tax trends from below 0 (at the lowest end) towards 0.7 (at the highest), as you make more and more money. at the bottom end, the eligible dividend tax to income tax ratio is negative. at about 40% bracket, its 0.5 to 1, and at the top end (48%) , its nearly 0.7 to 1

thus, the more money you make, the smaller the difference US dividends becomes vs CDN dividends.

the above is using my math of CDN taxation on US dividends based on the full dividend amount. not 100% sure if it's the correct assumption.

but if you use the post-withholding amount that FunSave22 uses, net tax is actually LESS if you keep US dividends in non-reg and CDN in TFSA, past 40% income bracket. this makes sense intuitively, because by taxing the post-withholding amount, you're avoiding 6% tax (40% of 15%), which gets larger and larger as you get to higher tax brackets

[pace]

Ok heres my situation...currently making 50k/year, not expected to stay here the rest of my life...I have room in my TFSA for Canadian dividend stocks, what would you recommend?

max out your TFSA then go into RRSP. throw all ur cdn dividend stocks in the TFSA

[boipinoi604]

Newbie question, if I DRIP my dividends from canadian index funds held in a non-registered account, do I still get tax credits?

[S5]

Newbie question, if I DRIP my dividends from canadian index funds held in a non-registered account, do I still get tax credits?

Yes, what you do with the dividends has no bearing on the dividend tax credit.

[boipinoi604]

Yes, what you do with the dividends has no bearing on the dividend tax credit.

Sweet
TD eSeries CDN index and INTL index into a non-registered account.
Talk about making your money work for you.. twice!

So Im guessing the institute where you held the account will send you some sort of a tax form of how much tax credit you're eligible for?

[S5]

Sweet
TD eSeries CDN index and INTL index into a non-registered account.
Talk about making your money work for you.. twice!

So Im guessing the institute where you held the account will send you some sort of a tax form of how much tax credit you're eligible for?

Only Canadian dividends are eligible for the dividend tax credit. Foreign dividends are taxed as income at your marginal rate.

Around March they will send you T5s detailing the income you've received from your investments in the previous year. This will likely increase your tax payable except in a few rare cases(Canadian dividends in low tax brackets in most provinces). The dividend tax credit is calculated on line 425. http://www.cra-arc.gc.ca/tx/ndvdls/tpcs/ncm-tx/rtrn/cmpltng/ddctns/lns409-485/425-eng.html

[boipinoi604]

Only Canadian dividends are eligible for the dividend tax credit. Foreign dividends are taxed as income at your marginal rate.

Around March they will send you T5s detailing the income you've received from your investments in the previous year. This will likely increase your tax payable except in a few rare cases(Canadian dividends in low tax brackets in most provinces). The dividend tax credit is calculated on line 425. http://www.cra-arc.gc.ca/tx/ndvdls/tpcs/ncm-tx/rtrn/cmpltng/ddctns/lns409-485/425-eng.html

http://www.finiki.org/wiki/Tax-Efficient_Investing
"a Canadian domiciled mutual fund will have paid withholding taxes to foreign governments, on the income it has received from foreign securities. The mutual fund will distribute the net amount; if the unitholders have the fund in a non-registered account, they will receive a tax slip including the foreign tax paid by the fund, which in most cases is fully recoverable from the CRA; "

[S5]

http://www.finiki.org/wiki/Tax-Efficient_Investing
"a Canadian domiciled mutual fund will have paid withholding taxes to foreign governments, on the income it has received from foreign securities. The mutual fund will distribute the net amount; if the unitholders have the fund in a non-registered account, they will receive a tax slip including the foreign tax paid by the fund, which in most cases is fully recoverable from the CRA; "

Yeah that's the foreign tax credit, line 405. http://www.cra-arc.gc.ca/tx/ndvdls/tpcs/ncm-tx/rtrn/cmpltng/ddctns/lns409-485/405-eng.html
You will most likely still have taxes to pay on your distributions though, this credit will only cover part of what is owning. It all shows up on your T5 slips.

[boipinoi604]

Interesting.
Looks like TD eSeries CDN Index goes into non-registered and
TD eSeries CDN BOND INDEX, US INDEX and EAFE goes into registered account.