A couple of weeks ago, I wrote about how tax loss selling may be very attractive this year. I wanted to follow up with a few ideas that came up in a conversation I had with Jeff Marek, Vice President Alberta Region Clarington Mutual Funds:
- Transfer Regular trust structure mutual funds to corporate structure mutual funds. If your mutual funds are in a loss position, you may want to see if the mutual fund company you are dealing with has a corporate tax structure. Some of the companies with this structure are AIM, C.I., Mackenzie, AIC, Fidelity, Clarington, Franklin Templeton, and Synergy. Within these companies, you can move from the regular trust mutual funds to the corporate funds to trigger a disposition and realize the losses without having to be out of the fund for 30 days. The corporate structure should have the same manager, holdings, objectives, etc.Carrying back the losses and writing them against capital gains in the past will result in immediate tax savings. Going forward, the new investment will be sheltered in a tax-deferred environment. Really, this is very similar to what happens when you make an RRSP contribution. Arguably, this may be better than an RRSP because any future growth will only be taxed at a 50% inclusion rate.
If your mutual fund does not have a corporate structure, you may be able to transfer your fund to an RSP eligible clone. You will want to move back to the regular fund after 30 days because the RSP products distribute interest income instead of capital gains and dividends.
- Sell your losses to your children / grandchildren. Another example of tax loss selling can occur if you have dependent children or grandchildren with little to no income.If you are sitting on an investment and you think it will rebound, you might consider gifting the investment to a child. By doing so, you will have a deemed disposition and therefore you will have losses that can be written off against capital gains. If these losses are carried back to 1998, 1999, or 2000, you will get an immediate tax refund.
Going forward, the child can earn approximately $14,000 of capital gains per year without paying tax (at the 50% inclusion rate). When the investment recovers, the future tax will be taxed in the hands of the child. It will be important to crystallize the gains from time to time to ensure that you take advantage of the tax-free gains in the hands of the child.
At the end of the day, you get a refund in taxes paid from previous years and the future investment growth grows tax-free.
For grandparents, they might be better off gifting “loser” investments that will rebound rather than gifting cash.
- When buying more units to average down, consider doing it in your spouse's name. Let's take a look at an example. Let's assume I bought 100 shares of Nortel at $100 per share and the stock is currently trading at $10 per share. If I average down and decide to buy another 100 shares, my cost base reduces from $100 per share to $55 per share. If the stock increases to $50 per share and I sell 100 units, the rules do not allow me to sell my first 100 shares so I can realize a $50 loss. Rather, I must use my average cost base and realize only a $5 loss.On the other hand, if I purchase the second 100 shares in my spouse's account, my cost base remains at $100 and my spouses cost base is $10 per share. If we than want to sell 100 shares at $50, we will have the option of selling my shares to trigger an $50 loss, selling my spouses shares triggering a $40 gain or selling half of each triggering a $5 loss.
If you sell all 200 shares at once, it would be all a wash and in both circumstances, you will have a $5 loss.
The government forces us to use average cost to determine the cost base for tax purposes. By buying in the spouse's name, you retain more control and flexibility in terms of which cost base to use.
The bottom line is if you want to realize losses in the short term and defer gains to the future, consider buying new units in your spouse's name.
As I've said before, tax loss selling can be very complicated. I have provided very specific examples that may not apply to everyone's financial circumstances. If you are in a position where you have significant losses from when you originally purchased your investments, you should seek help from a professional. Also keep in mind that capital losses can only be claimed against capital gains and not other sources of income. RRSP investments do not apply because you will not pay taxes on any gains until funds are withdrawn from the RRSP.