August 15, 2008, 6:00 am

Shifting Your Investments According To Your Tax Rate

by: The Financial Blogger    Category: Financial Planning,Investment, Market and Risk,Personal Finance
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Since about 2 years ago, compliance has been a major issue for the bank industry. They have been requested to improve their processes in order to get rid of any flaws they may have. A well debated question in the industry is the following: “Should a client have one investment profile per account (project) or per person?”. While I believe we should have one profile per client, I will debate this topic another day. However, I have to based the following strategy on this premise in order to make it work.

I know several people who have non-registered and registered investments. Most of the time, they have about the same investment profile, i.e. the same asset allocation inside and outside their RRSP (the equivalent as 401(K) for our US readers). However, tax laws are way different for these two types of account.

In fact, registered investments are not until they are withdrawn from their account. Therefore, one should have his highly taxable investments (such as interest income) within his RRSP Portfolio and leave capital gains and dividend income in his non-registered account.

If you are trading on your own, making this shift should not be a big problem. You simply have to sell your bonds, GIC’s and other fixed income paying interest in your non-registered account in order to buy more stocks or high paying dividend investments (such as financials?). Then, you repeat the operation in your registered account but by selling stock to buy back bonds.

The good news is that this technique won’t trigger much tax by flipping your investments around. Selling fixed income doesn’t trigger much capital gains and selling stocks within your registered portfolio won’t trigger any tax at all.

If you have mutual funds, the operation is a bit different. Let’s presume that you have a balanced portfolio for both accounts. Then, you should sell your balanced portfolio within your non-registered account in order to buy more aggressive funds. Than, you sell your registered portfolio to buy a more conservative funds. The purpose of these transactions is to remain with the same global profile but with a tax efficient strategy.

If you are switching funds within the same family (i.e. Mackenzie balanced to Mackenzie aggressive for example), there are chances you won’t have to sell much of your portfolio. In fact, several diversified funds include funds of different categories that were blended together. So they might be able to simply sell a part of the fixed income funds to buy more equity funds.

I recently did the math for a 300K account and you would easily save $500 per year by doing such strategy. While 300K seems to be a big number, I am sure that you will reach that point by investing on a steady basis year after year. Even if you have a 50K portfolio and you save $100, it’s still a good dinner at a restaurant 😉

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