Retirement » Retirement Income

A secret to getting more retirement income – and less tax!

If you’re looking for less volatility and more income, preferred shares are worth a look.

Preferred shares are simple to understand. Preferreds are issued by major Canadian corporations and tend to be more of a debt obligation than an equity issue for the company. They are junior to bondholders but senior to common shareholders in relation to payments and access to assets in the case of insolvency.

Preferred shares generally pay a fixed dividend, which may change after specific anniversary dates. They generally fluctuate based on the credit rating of the underlying issuer as well as with the general interest rate environment.

Preferreds enjoy attractive yields relative to common shares and bonds. When held outside a registered plan, a dividend yield of 6 percent is roughly equivalent to an interest yield of 7.8 percent at the top marginal tax bracket due to the dividend tax credit. Dividend payments are very reliable when issued by well-capitalized, solid companies, such as Canadian banks and conglomerates.

They have flexibility due to the various types of preferreds: straight, retractable, fixed-reset, convertible, etc. There is also US-pay preferreds are issued by Canadian corporations but are denominated in US dollars and are fully entitled to the dividend tax credit for US dollar accounts. Preferreds do not generally need to be traded once you have acquired them.

Similar to bonds, they can be bought and held within a portfolio as part of the fixed-income component. What to Look for When Shopping for Preferreds Try to buy the issues that trade at or below par (par is usually 25 or 50 dollars) in order to avoid a capital loss upon redemption. Look at both current yield and yield to the first call to make sure both are attractive. This can get tricky and these yields can differ significantly from time to time. Make sure that the dividend is cumulative unless issued by a major bank. Banks, as a general rule, do not use the cumulative feature because they are unlikely to default on their dividend, making the cumulative feature less necessary.

Request the rating of a Canadian preferred, ask for the “S&Ps Harmonized Rating”. It runs from P-1 (superior credit quality) to P-5 (a speculative rating). You should stick with P-1 and P-2 issues for most of your preferred portfolio.

Finally, Buy various types of preferreds: straight, retractable, fixed-reset, and US dollar-pay if you have US dollar accounts. What do you prefer?

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