After Tax Returns & Your Investments

by Tax Guy - Burlington Accountant on June 1, 2009 Print This Post Print This Post

If you hold stocks, bonds, mutual funds or other investments outside of your RRSP or RRIF, you need to consider the impact income taxes will have on your investment returns.

Income Taxes Impact Your Returns

If you earn more than $130,000 you will be in the highest marginal tax rate* (on regular income) which is any where from 39% in Alberta to 48.25% in Nova Scotia.

Interest and foreign dividends are taxed differently than dividends from Canadian companies. Capital gains are taxed differently from income and dividends. The result is that the rate of tax you could pay on your investments differs dramatically depending on the type of investment income you earn.

Consider $1,000 Of Investment Income

Assume you live in British Columbia and earn $130,000 per year before your investment income. If you also earned an additional $1,000 of investment income, the tax you would pay on this additional $1,000 depends on what type of income the investment generated.

Income

Marginal Tax Rate

Income Tax

After Tax Income

Interest or Foreign

43.70%

$437

$563

Eligible Dividends

19.92%

$199

$801

Ineligible Dividends

32.71%

$327

$673

Capital Gains

21.85%

$219

$782

 
As you can see, the type of income matters. Interest income has the lowest after-tax return while eligible dividends generates the highest. Note that the level of income you earn and the province you live in will affect which type of income produces the best after tax return.

Choose Wisely And Allocate Effectively

Choosing your investments can be a daunting task. There are a myriad of stocks and bonds out there along with possibly even more mutual funds. Once you have selected your investment, you next need to consider where to put the funds.

For tax efficiency, interest income makes sense inside tax-deferred accounts such as RRSPs or TFSAs. Foreign dividend income is best earned inside RRSPs (they are still subject to non-resident withholding tax inside a TFSA). Capital gains and eligible dividends a best outside of your RRSP or TFSA.

* Your marginal tax rate is the amount of income tax you paid on the last dollar you earned. Presumably, the next dollar earned would be taxed at that same rate.

About The Tax Guy...

Dean Paley CGA CFP is a Burlington accountant and financial planner who services individuals and business owners locally, nationally and internationally. Dean has appeared in the National Post, Toronto Star and Metro News.

To find out more, visit Dean's website Dean Paley CGA CFP or connect via Twitter @DeanPaleyCGACFP.

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