Altamira is committed to helping investors achieve their financial goals. The following summary is designed to help investors understand how mutual funds generate taxable income outside a registered plan. Investors seeking advice on their personal tax situation are strongly encouraged to contact a professional tax specialist.

The benefits of tax deferral become increasingly evident over longer periods. The most effective approach is to avoid taxes entirely – at least for a while. Investors who hold mutual funds in a registered plan (e.g. RRSP, RRIF, RESP) are exempt from paying taxes on earnings until they are withdrawn.

Types of Income

Taxes are an unavoidable reality when investing outside an RRSP, and ultimately determine the amount of gains investors actually keep. Accordingly, it's important to understand how each type of investment income – interest, capital gains and dividends – incurs a different tax treatment.

Interest Income
Interest income is generated from investments such as savings accounts, Treasury Bills, GICs and term deposits, as well as government and corporate bonds. The tax treatment of interest income is relatively straightforward: it's taxed in full at an investor's marginal tax rate. This is the same rate as one's employment income, and the highest of any type of investment income.

Capital Gains
A capital gain occurs when an investment (such as a stock, bond or mutual fund) is sold at a higher price than originally purchased. Similarly, a capital loss arises when an investment is sold at a lower price than its original cost. There are two ways an investor can realize capital gains: when a fund distributes realized gains to unitholders; and when an investor sells or exchanges mutual fund units at a profit. In either instance, only 50% of the realized capital gain is reported for income tax purposes. The lower inclusion rate represents a considerable savings for investors, with the remaining 50% of the gain essentially tax-free.

Dividends
Dividends are an after tax payout of a company's earnings to its shareholders. Since dividends are paid out of a company's after-tax profits, unitholders are required to "gross up" the income received by 45% in order to better reflect the pre-tax income generated by the company. However, investors are entitled to a tax credit (19% of "gross up") that effectively lowers the overall taxes payable. This preferential tax credit means investors pay less tax on dividends received from Canadian-source corporations than the equivalent amount of interest income (foreign corporations are ineligible for the credit).

Taxable Distributions To top

What Are Distributions?
Distributions are the payment of income earned by a fund to unitholders in the form of interest, dividends and/or capital gains for mutual fund trusts, or dividends and/or capital gains dividends for mutual fund corporations. Investors are required to pay taxes on the income at their personal marginal tax rate.

How Are Distributions Calculated?
Interest income and dividends earned by a fund are paid out to unitholders for a given period after all operating expenses have been subtracted. Interest income is usually distributed to unitholders on a monthly or quarterly basis, depending on the individual fund's investment mandate. The frequency of dividend distributions tends to vary depending on the fund company. The capital gains distributed to unitholders equal all realized capital gains minus all realized capital losses, losses carried forward from previous periods, as well as any capital gains refund entitlement. Capital gains realized by a fund's trading activity are generally distributed on an annual basis, most often at year-end.

How Much Will I Receive?
Distributions are paid out to all unitholders of record on a pro-rated basis; in other words, they are in direct proportion to the number of units owned by each investor on the day prior to the distribution – the record date.

How Are Distributions Paid?
Investors may choose to receive distributions in cash or have them automatically reinvested in the form of additional units. In either instance the amount is taxable. Most investors choose to reinvest distributions.

What Happens When a Distribution Is Paid?
When a mutual fund distribution is reinvested, the unit price of the fund goes down by the amount of the per unit distribution payment (excluding market activity). However, the overall value of your investment (# of units * NAVPS) remains unchanged. Automatic reinvestment means that the total distribution amount is directed towards the purchase of additional units of the fund, increasing the number of units held by the investor. Multiply the higher number of units by the new, lower price and you will find that the value of your holdings is unchanged. If a distribution is paid out in cash, the remaining value of the mutual fund holdings plus the cash received will equal the value of your holdings prior to the distribution.

Summary of Calculations for
a Mutual Fund Distribution

Total Investment Value

Before the distribution You own 100 units @ $10 per unit

$1,000

Distribution of $0.50 per unit is declared:

$50 (100 units X $0.50) total distribution is made and unit price drops to $9.50 ($10.00 less $0.50)
Reinvestment of $50 distribution used to acquire additional units at new price of $9.50
You receive 5.263 units ($50 / $9.50 = 5.263), increasing the number of units owned to 105.263

After the distribution (with automatic reinvestment)
You own 105.263 units @ $9.50 per unit

$1,000

After the distribution (if paid out in cash)
You still own 100 units @ $9.50 per unit, plus the $50 cash payment.

$950 + $50 = $1,000

Selling Your Funds To top

Capital Gains
A capital gain can be triggered by unitholders when some or all of their units are sold at a profit (referred to as a deemed disposition). The individual unitholder's tax bracket will determine the tax rate that applies to the gain. Remember, only 50% of the net capital gain (capital gains minus capital losses for the year) is taxable.

Capital Losses
A capital loss occurs when an investment is sold at a lower price than when originally purchased. Capital losses have no value by themselves; however, in certain instances investors are permitted to reduce or offset the tax liability associated with capital gains using realized capital losses. In addition, investors may carry back capital losses from the current year to offset capital gains in any of the previous three tax years, or carry forward the losses indefinitely.

According to Canada Revenue Agency (CRA) taxation guidelines, a superficial loss occurs when an investment is sold at a loss then subsequently repurchased by the same investor, the investor's spouse or corporation within 30 days of the sale. A superficial loss cannot be used to offset realized capital gains.

Can a capital gain or loss be realized in other circumstances?

A transfer of units from a non-registered account to an RRSP account may trigger a taxable capital gain. Capital losses triggered by such a transfer may be used to offset capital gains provided the investor does not repurchase units of the same fund within 30 days.
Upon death, or emigration from Canada (non-residency status).