Some basics of Canadian Investing; Mutual Funds, Eligible Dividends and Deferred Tax

Here is a brief introduction to the absolute basics of investing Canada. If you know this, you really just know the basics.  If you do not know much about Mutual funds, Eligible dividends, income trusts, and deferring taxes owing then trust me, this is the tip of the iceberg.  The Investment Fund Institute of Canada (IFIC) has a mutual fund course as probably does the Canadian Securities Institute (CSI).  Both are sought after for entry into the financial sector.

At the very basic, here are the 2 main types of tax-sheltered investments you probably have heard about – RRSP or RRIF.  In both cases, you put money away into these investments which are NOT taxed at year-end.  you pay taxes when you withdraw or remove the funds after certain milestones, such as age 65. 

Investments that generate capital gains or Canadian source dividends are taxed more favourable than interest income because interest income earned from investments such as T-Bills, bonds, and GIC’s are generally taxed at the highest marginal tax rate.
• Dividends earned from a Canadian Corporation are taxed at a lower rate than interest income.  This is because dividends are eligible for a dividend tax credit, which recognizes that the corporation has already paid tax on the income that is being distributed to shareholders.
o This only applies to dividends from a Canadian corporation.
o Dividends paid from a foreign corporation are not eligible for the dividend tax credit.

As of 2006 there are now two types of dividends, eligible and non-eligible dividends, and they are treated differently from a tax perspective.
• Eligible dividends include those received from a public Canadian corporation and certain private, resident corporations that must pay Canadian tax at the general corporation rate. As a result, they have a federal tax credit of 18.97% and are grossed up by 145%.
• Non-eligible dividends include those received from Canadian-controlled private corporations not subject to the general corporate tax rate.  They have federal tax credit of 13.33% and are grossed up by 125%.

This change was introduced by the government of Canada in order to present a more balanced tax treatment between corporations and income trusts as Canadians were investing more and more in income trusts and less and less in corporations and why wouldn’t they, since prior to 2006 income trusts were not taxed on any income allocated to unit holders, whereas dividends paid by a Canadian corporation are paid out of after tax earnings. 

To combat this, many corporations began to restructure their operations to become income trusts.  Something had to be done.

In a typical income trust structure, the income paid to an income trust by the operating entity may take the form of interest, royalty or lease payments, which are normally deductible in computing the operating entity’s income for tax purposes.  These deductions reduce the operating entity’s tax to nil.   

The trust “flows” all of its income received from the operating entity out to unitholders.  The distributions paid or payable to unitholders reduces a trust’s taxable income, so the net result is that a trust would also pay little to no income tax, which is never a good thing in the government’s eyes.

So who then gets hit with the tax bill??  The net effect is that the interest, royalty or lease payments are taxed at the unitholder level;
1. A flow-through entity whose income is redirected to unitholders, the trust structure avoids any possible double taxation that comes from combining corporate (T2) income taxation with shareholders’ dividend taxation
2. Where there is no double taxation, there can be the advantage of deferring the payment of tax.  When the distributions are received by a non-taxed entity, like a pension fund, all the tax due on corporate earnings is deferred until the eventual receipt of pension income by participants of the pension fund.
3. Where the distributions are received by foreigners, the tax applied to the distributions may be at a lower rate determined by tax treaties, that had not considered the forfeiture of tax at the corporate level.
4. The effective tax an income trust owner could pay on earnings could actually be increased because trusts typically distribute all of their cashflow as distributions, rather than employing leverage and other tax management techniques to reduce effective corporate tax rates.  It’s easier to distribute all the funds out and show nothing being retained that it is to implement strategies to reduce corporate tax owing which is the path most often taken. 

Where can a holder find their dividends reports?  Dividends are usually shown on the following CRA slips:
• T5, Statement of Investment Income
• T4PS, Statement of Employees Profit Sharing Plan Allocations and Payments
• T3, Statement of Trust Income Allocations and Designations
• T5013, Statement of Partnership Income
• T5013A, Statement of Partnership Income for Tax Shelters and Renounced Resource Expenses

When completing a Canadian tax return, where should a holder enter their dividend information?

Enter on Line 180 the taxable amount of dividends (other than eligible dividends) as follows:
• box 11 on T5 slips
• box 25 on T4PS slips
• box 32 on T3 slips
• box 51-1 on your T5013 or T5013A slips.

Enter on Line 120 the taxable amount of all dividends from taxable Canadian corporations, as follows:
• boxes 11 and 25 on T5 slips
• boxes 25 and 31 on T4PS slips
• boxes 32 and 50 on T3 slips
• boxes 51-1 and 52-1 on your T5013 or T5013A slips.

What do I do if I did not receive an information slips?

Ignore it and the CRA will let me off the hook?  No chance.  If you did not receive an information slip, you must calculate the taxable amount of other than eligible dividends by multiplying the actual amount of dividends (other than eligible) you received by 125% and reporting the result on line 180.  You must also calculate the taxable amount of eligible dividends by multiplying the actual amount of eligible dividends you received by 141%. Report the combined total of eligible and other than eligible dividends on line 120.

So what exactly is a capital gain?

Capital gains occur when you sell an asset for more than you paid for it. This gain is offset by any losses and can be further reduced by any expenses that are incurred by the purchase or sale of the asset – resulting in net capital gain.
Taxation of capital gains: 50% of a net gain is taxable at the appropriate federal and provincial rates.

My accountant advised me I need more “Tax deferral”.  What does she mean?   She means contributing the maximum amount to your RRSP which provides an immediate tax deduction and tax sheltered growth as long as the investment(s) remain in the plan.

Other less commonly used strategies include:
• Universal Life Insurance is a policy that combines life insurance coverage with a tax deferred investment component. Premiums paid are first used to ensure life coverage and the balance accumulates in an investment account where it grows tax deferred.
• Registered Educations Savings Plan (RESP) is a plan where contributions are used to fund a child or grandchild’s post secondary education costs.
o initial contributions are not tax-deductible
o any income earned within the plan is only taxable in the hands of the student at the time of withdrawal.

More is coming in the next few days, weeks and months…

The two certainties in life… Death and Taxes.

This post is a brief look at estate filing rewuirements with the Canada Revenue Agency (CRA) and the role and requirements of an executor in Canada.

In Canada, there is no estate or succession tax, unless you consider the taxes owing to the CRA on the estate at death.  RC4111(E) for English is what I used to do my research on this area, which can be tricky if you have no experience dealing with Estates, or with the CRA; http://www.cra-arc.gc.ca/E/pub/tg/rc4111/rc4111-e.html.

Here is what makes it complicated… Your loved one dies and there is money left in the estate and by money, I’m referring to bank accounts, some investments and maybe an asset owned in the name of the deceased, like a car, or even a house.  Before you, or the person responsible (the executor) can begin removing things from the deceased’s name into someone else’s name – usually yours – they have to first go to the CRA and find out if the deceased owed any taxes. 

Aside from information already on their systems, the CRA will know if there are taxes owing by the deceased based on what has already been filed.  But what about stuff not filed yet?  One way the CRA determines if there are any taxes owing is by having the executor complete the filing of all tax returns owing for the deceased within 60-90 days of their date of death.  Then, if there is no amount owing, the CRA provides a certificate called a clearance certificate which the executor can then present to banks, etc along with the death certificate in order to move funds and investments over to the surviving member.

If a clearance certificate is not received and funds are disbursed and the estate owes taxes, the CRA can then hold the executor liable for those funds!

The returns the CRA will be looking for include a T1 (individual tax return) for the decreased covering the period from January 1st of the year of death up to the date of death, reporting all income from employment and investments.  Report income earned after the date of death on a T3 Trust Income Tax and Information Return.  A T3 reports income from trusts for the estate (all the assets of the deceased make up the estate).

The capital gains (profit on any item bought) on their investments also have to be accounted for an added on this return.

If you file the final return late and there is a balance owing, the CRA will charge a late filing penalty (LFP).  They will also charge interest on both the balance owing and any penalty. The penalty is 5% of any balance owing, plus 1% of the balance owing for each full month that the return is late, to a maximum of 12 months – as of January 2012.  The LFP may be higher if the CRA has charged a LFP on a return for any of the three previous years.

In certain situations, the CRA may cancel the penalty and interest if you file the return late because of circumstances beyond your control.  If this happens, complete Form RC4288, Request for Taxpayer Relief, or include a letter with the return explaining why you filed the return late. For more information, go to Fairness and Taxpayer Bill of Rights or see IC07-1, Taxpayer Relief Provisions.

Here is the 2011 CRA guide for preparing returns for deceased people;

http://www.cra-arc.gc.ca/E/pub/tg/t4011/t4011-e.html

What tax slips / returns did I receive and why?

Have you ever received tax slips in the mail and wondered why?

Here are some of the slips you may have received and a description of what they are reporting:

 

RRSP Contribution Receipts

RRSP contribution receipts are issued for all contributions, regardless of the amount, and show all reportable contributions for the tax year.   These get mailed more frequently if you are actively contributing to your RRSP,  with the first mailing at the end of January (for contributions made between March 1st and December 31st), and in separate mailings until mid-March (for contributions made in the first 60 days of the following year, to be applied to the previous year. 

 

T4RSP/T4RIF Relevé 2 (RL2)

T4RSPs/T4RIFs are issued for all withdrawals, regardless of amount, and show actual or deemed withdrawals from an RRSP/RRIF, including Lifelong Learning Plan (LLP), Homebuyers Plan, marriage breakdown and hardship. Quebec residents must file the RL2, in addition to the T4RSP/T4RIF.   These slips are mailed by the last day in February, so you should be receiving them around then, early March at the latest. 

 

NR4

NR4s are only issued for amounts of at least $50 per currency for investment accounts, but for any amount for registered accounts. NR4s are also issued for amounts less than $50 per currency if tax was withheld from the payment. It records reportable income from Canadian sources for non-residents of Canada.  The NR4 is required to be mailed before the last day in March (or early April if March 31st falls on a Saturday or Sunday). 

 

T4A/Relevé 1 (RL1)

T4As are issued for all withdrawals, regardless of amount, and show actual or deemed withdrawals from an RESP. Quebec residents must file the RL1, in addition to the T4A.   T4A’s / RL1’s are required to be mailed by the last day in February. 

 

T5/Relevé 3 (RL-3)

T5’s report dividend and interest income and are only issued for amounts of at least $50 per currency. It consists of two parts: the T5 Supplementary (which shows the reportable regular and split share income for the tax year) and the Investment Income and Expense Summary (which provides details of the totals, including expense items). Quebec residents must file the provincial tax form, Relevé 3, in addition to the T5.   These are mailed out to holders before the last day in February.

 

T3/Relevé 16 (RL16)

T3’s report trust and mutual fund income and are only issued for amounts of at least $100. It consists of two parts: the T3 Supplementary (which shows the reportable capital gains and other income for the tax year) and Summary of Trust Income and Expense (which provides details of the totals, including expense items, as well as the adjusted cost base portion – return of capital). Quebec residents must file a RL16, in addition to the T3.  These are to be mailed before the last day in March. 

 

T5013/ Relevé 15 (RL15)

T5013s are issued for limited partnership income, regardless of the amount, and record the partnership’s gain or losses at the partnership’s year-end. Quebec residents must file the RL15, in addition to the T5013.   These are sent out before the end of March.

 

Relevé 7 (RL7)

RL7’s are issued for Quebec Residents only, recording all reportable income from the Small and Medium Enterprises Growth Stock Plan (SME), formerly called the Quebec Stock Savings Plan.  These are mailed before the last day of February. 

 

1099-DIV

1099-DIVs show all reportable dividends paid to a U.S. person (or individuals subject to US tax laws) during the tax year.   1099-DIV’s can be mailed out by the end of January, however, the IRS allows for companies to file for 30 day extensions, and most apply for it to be sure of no penalty or interest, so these forms are mailed by the end of February instead.  

 

1099-INT

1099-INTs show all reportable interest paid to a US person (or individuals subject to US tax laws) during the tax year. These are to be mailed by the end of January.

 

1099-B

1099-Bs show all reportable distributions for a US person (or individuals subject to US tax laws) during the tax year.  As mentioned with the 1099-DIV’s are subject to an extension and thus are usually mailed by the end of February instead of the end of January. 

 

1042-S

1042-S’s show all reportable US source income paid to a non-resident of the US during the tax year.  These forms are to be mailed by the end of March. 

The Canada Revenue Agency Informant Leads aka “Snitch” Line

You have come to this blog for more information on the Canada Revenue Agency’s (CRA) Informant Leads or Snitch Line.  Yes, the line does exist and if you are looking for the number in order to use it, that number is 1.866.809.6841.

You may have heard me speak on CFAX1070 about the CRA Snitch line, or possibly you heard my interview on CBC.ca regarding the existence and use of this line.  If you have not, then let me take a moment to clear the air on this line.  The Informant Leads line does exist.  In fact, it has become such a popular tool for finding new collection sources that it’s increased volume of calls can be directly attributed to a reduction in the need for collections staff / auditors and investigators who were responsible for digging up new leads.

It is absolutely not possible for someone to call the line, make up a story and have someone investigated.  Anyone who states that does not know the purpose of this line and obviously has no experience working in the CRA.  To say that is irresponsible and fear mongering.   The CRA will act on leads but there must be some proof provided.  Simply asking for your neighbour to be audited because they drive a nicer car than you is not going to begin years or investigations-hell for them.  If, however, you purchase an item from a retail establishment, and are charged taxes, but you notice that the teller never ran the purchase through the till, then you can be assured that they are pocketing the taxes instead of remitting it to the CRA.  Or, if you notice on the receipt that they have charged you the wrong rate of tax, then you need to notify the CRA.

In one case, while I was working at the CRA, I purchased a large ticket item from a local store only to find out later that the taxes on the bill totaled 28%.  I went back to the store to ask for it to be corrected, only to have them advise me that it was a “US cash register” and that the rate was incorrect.  I took the receipt into the office hoping to launch an internal investigation but was told it would be 6-weeks before they were able to look at it.

So I walked over to a phone beside my desk, called the snitch line, explained the issue and after providing the receipt as proof, found that an investigation was launched the next day and heard through the grapevine that over $200,000.00 was recovered from the company.

That is where the snitch line can be put to good use.

If, however, you hear your neighbour bragging about how much money he makes under the table and he lives way better than you do?  You can call the snitch line.   Or if your ex-spouse is unwilling to file their outstanding tax returns because it would mean they would have to increase child support payments, then you can call the snitch line.  The CRA will take the information, begin with an internal investigation to see if there is merit, then possibly drop by the home or business to get a feel for whether an audit is required or if a net worth assessment is needed.

At the end of the day, the intention of the snitch line is to provide a direct link to the CRA’s Audit department and it assists the CRA as they use these “tips” to recover funds from professional tax avoiders.

Key words the CRA likes to hear includes;

Their names, their address, an amount of unreported income greater than, say $50K, maybe a second set of books, or 2nd property in the name of their cat…

It never hurts to call.

It always hurts to not call.

This line is anonymous and believe it or not, the majority of “tips” come from exes who are left holding the bag while their ex-spouses are living it up.

I figured I would post this since it is the most frequently asked question I get.  Yes a line exists and yes it gets acted on… and fast if the dollar amount to be recovered is high.

I have actual experience seeing this line work and I know for certain of instances where people have called this line in effort to discredit or attack someone and at the end of the day, the CRA  has investigated that person or party and punished them for making a false claim.  Those in glass houses should never throw stones.

Snitch Logo

NetFlix Takes Out Blockbuster

On the same day that NetFlix launched its product into Canada, Blockbuster announced it is filing for Chapter 11 (bankruptcy) in the United States. Can that filing be coming up in Canada too?

Is this not a case of out with the old and in with the new?

Blockbuster became obsolete years ago, around the same time record stores like Sam the Record Man, HMV and Sunrise began to realize they were no longer a viable option.

How to contact the IRS internationally – Updated 2012.

Below, you will find the only way for a Canadian person / organization to contact the IRS for personal, business or FATCA information.  If you live in the US, you can call from anywhere, toll-free, and discuss tax issues and I think it’s about time they extend the same courtesy to Canada, eh?

See the IRS contact information below from the IRS website; http://www.irs.gov/localcontacts/article/0,,id=101292,00.html

International Services:

If you are a taxpayer who lives outside the United States, the IRS has full-time permanent staff in 4 U.S. embassies and consulates. These offices have tax forms and publications, can help you with account problems, and answer your questions about notices and bills. You can reach these offices at the following telephone numbers, which include country or city codes if you are outside the local dialing area.

If you are calling about an e-file issue and it is not account related, please contact the
e-help Austin at 512-416-7750. Assistance is available from 7:00 a.m. to 6:00 p.m. Central time, Monday through Friday.

Frankfurt IRS

U. S. Consulate Frankfurt
Giessener Str. 30
60435 Frankfurt am Main, Germany
Tel: [49] (69) 7535-3834
FAX: [49] (69) 7535-3803
M-F 8 a.m. – 4 p.m. (Closed U.S. and German Holidays)

London

Internal Revenue Service, United States Embassy
24/31 Grosvenor Square
London W1A 1AE
United Kingdom Walk-In assistance available
Tuesday through Thursday
9:00 a.m.- 1:00 p.m. and 2:00 p.m. – 4:00 p.m.

Phone Service
Tel: [44] (207) 894-0476
9 a.m. to Noon. Monday through Friday
FAX: [44] (207) 495-4224

Paris United States Embassy/IRS
2 Avenue Gabriel
75382 Paris Cedex 08, France
Walk-In assistance 9:00 a.m.- noon
Phone service: M-F 1:30 p.m. – 3:30 p.m.
Tel. [33] (01) 4312-2555
Fax: [33] (01) 4312-2303

The IRS offices listed can answer your federal income tax questions, help with account and refund problems, and assist with the preparation of current and prior year tax returns.

IRS trained volunteers are also available at some embassy/consulate locations. If you are interested in becoming a volunteer, please contact one of our IRS offices.

Taxpayers located outside the US (read: CANADA) may also contact the IRS by mail at:

Internal Revenue Service
P.O. Box 920
Bensalem, PA 19020

Or you may telephone or FAX the Philadelphia Service Center office at:

Tel: 267-941-1000 (not toll-free)
Fax: 267-941-1055

Phone service available from 6:00 am to 11:00 pm (EST) M-F

Residents of Puerto Rico and the U.S. Virgin Islands may contact the IRS toll-free at 1-800-829-1040. (Hours of Operation 7:00 a.m. to 10:00 p.m. Monday – Friday).

Other items of potential interest:

International Taxpayer Advocate:
To request Taxpayer Advocate help, call:

Worldwide: Puerto Rico office:
Tel: (Spanish) 787-622-8930, (English) 787-622-8940
FAX: 787-622-8933

Tax Treaty signed between Canada and the Republic of Namibia

The Department of Finance has announced that a tax treaty between Canada and the Republic of Namibia for the avoidance of double taxation and the prevention of fiscal evasion was signed on March 25, 2010, in Windhoek.

The treaty limits the rate of withholding tax to 5% for dividends between affiliated companies and 15% for dividends in all other cases, and 10% for interest and royalties.

The treaty will enter into force once both countries have taken the necessary ratification measures and have notified each other of such ratification.

The full text of the treaty can be found on the Department of finance website.

http://www.fin.gc.ca/treaties-conventions/namibia-eng.asp

This treaty is NOT in full force yet.