Tax season is commonly known as the period preceding the April 30 deadline for filing a personal income tax return, a time when we are preoccupied with gathering T slips and expense receipts needed to report income and claim tax credits and deductions. It’s also when many of us realize that, once the tax payable (or refundable) amount has been calculated, some tax planning is in order.
The fiscally wise, on the other hand, regard tax planning as an ongoing process, not an event reserved just for spring. But if there is a specific time of year to view your financial affairs through a magnifying glass, it’s December. Doing so will uncover changes that could be implemented before the year-end and result in a lower tax bill for the current year. It also puts you on the right foot as a new year begins.
The following are some investment-related tax planning tips gleaned from year-end checklists produced by RBC Capital Markets, KPMG and PwC.
Manage capital gains and losses
There are a number of possible measures to consider related to capital investments, such as stocks and mutual funds. If you have realized capital gains from the sale of such assets this year or in any of the three preceding years, consider selling money-losing securities in your portfolio to realize a capital loss that can be used to offset those gains. Capital losses must first be used to wipe out gains realized during 2019, and any additional loss amount can be carried back to reduce gains reported in 2016-18, resulting in a refund of tax paid in regard to those gains. Capital losses not used to offset any already-realized gains can be “banked” indefinitely, or carried forward, for use in the future.
Note that a security traded on a stock exchange in Canada or the United States must be sold no later than December 27 to be considered a transaction for 2019 tax purposes. Also be aware of the superficial loss rules, which are in place to guard against a short-term sell-and-buy-back strategy to realize a loss and immediately replace the asset, thereby gaining a tax advantage without disrupting a longer-term investment strategy. You (or anyone affiliated with you, such as your spouse or a trust that you or your spouse control) must not own an asset identical to be one being sold during the 30 days prior to and 30 days following the transaction date. As a result, normally you’d only consider selling an asset for this purpose if it no longer met your investment criteria.
The flip side of this strategy is to consider delaying until next year the sale of an investment that has a paper profit, thus deferring reporting the resulting capital gain until you file your 2020 tax return, if it would be to your advantage to do so in terms of tax savings.
Timing of mutual fund purchases and sales
A mutual fund’s unit or share price is based on its net asset value, which can change after an income distribution is made – notably toward the end of the year when the value of capital gains realized within the fund portfolio are flowed through to unitholders. This means you’ll pay more to purchase a fund prior to a distribution date, and you will be taxed on the amounts received (at varying rates depending on the type of income: as dividends, cash and capital gains).
To avoid the distribution, find out from your investment advisor or the fund company when that income will be paid out, and delay a purchase until after that date. Conversely, if you already own the fund, consider selling it prior to the distribution date. Of course, you should first determine how much you could save by doing this, weighed against other costs, such as redemption fees and other transaction costs, as well as any capital-gains-tax liability.
Year-end RRSP opportunities
The deadline for contributing to a registered retirement savings plan that is tax-deductible for 2019 purposes is Feb. 29, 2020, or 60 days following the end of the year. However, the earlier you contribute, the sooner your tax-deferred savings accumulate.
While most people wait until retirement to begin withdrawing from their RRSP – or, at the latest, until the year in which they turn age 71, when a plan must be collapsed – there may be some merit in making an early withdrawal in a low-income year. The reason is the withdrawal will be taxed at a lower rate than when your income is higher. If this is the case, you would remove the money from your plan prior to the year-end so that it would be taxed at your lower tax rate for 2019. However, by doing so you would lose the advantage of a future tax deferral on that money. As always, do the analysis before reaching a decision.
If this is the year in which you turn 71, to the extent you are able, consider contributing as much as you can to your plan before the year runs out – and your RRSP eligibility ends. Consider taking the following steps:
- Make your 2019-deductible contribution by December 31. The Feb. 29, 2020 deadline does not apply to you. This amount should include as much of your remaining RRSP contribution room as possible.
- Even if you have used up all of your contribution room, consider making an additional contribution that will be deductible for 2020. How so? The rules state that the age-71 year is the last one in which you are allowed to put money into an RRSP. Depending on how much earned income you have in 2019, this will create additional contribution room of up to $26,500 for 2020, which would be eligible for a 2020 tax deduction – as long as you contribute this amount before the end of this year. This would create an overcontribution situation, but the penalty of 1% per month would be a small price to pay to gain a healthy tax deduction on your 2020 return. And, don’t forget, you are allowed to overcontribute $2,000 before the penalty applies.
- Remember, too, that you can continue to gain deductions for contributions to your spouse’s RRSP until after the year in which he or she turns 71.
TFSA strategies
Be sure to make full use of a tax-free savings account, in which income is not taxable. The maximum TFSA contribution for 2019 is $6,000. If you’ve never started a TFSA, assuming you were over age 18 when the program was launched in 2009, you’d now have $63,500 in unused TFSA room available. While contributions are not tax-deductible, withdrawals are entirely tax-free.
An important feature of the TFSA is that you are allowed to replace amounts that you previously withdrew from your account, but you must wait until at least the beginning of the following year to recontribute. So, if you are thinking about tapping into your TFSA savings, it would be wise to do so before the year ends. If you delay until early 2020, you would not be able to replace the amount of that withdrawal until the being of 2021.
Review how you receive investment income
This is a good time to estimate how much investment income you receive in the form of interest, dividends and capital gains, and consider in which portfolios you receive this income – in a taxable account, a tax-deferred vehicle such as an RRSP or registered retirement income fund (RRIF), or a TFSA. While you may need to retain a good deal of growth in the tax-advantaged accounts, fundamental thinking decrees that interest, which is fully taxable, should be earned in an RRSP/RRIF or TFSA, and dividends and capital gains, which are taxed at lower rates, within a non-sheltered, taxable account.
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