A lot of people fall in love with the idea of dividends. It feels amazing to see profits hit your investment account. Even better if these profits are automatically buying more shares through a Dividend Reinvestment Plan (DRIP). However, if you love dividends, you need to be accumulating them in a TFSA, RRSP or another registered plan. In these types of plans, it usually doesn’t matter how you make your profits. However, if you are investing in a non-registered plan, it makes a lot of difference how you are earning your profits.
When you earn dividends, you need to pay tax on those profits in the year you earn them. If you are a high-earning tech professional, holding a lot of US tech stock, as a lot of you are, then about half of your dividend will go to the CRA. Not good.
Compare this to a capital gain that you would earn on a growth stock. You only pay half tax on a capital gain under $250k, but even more importantly, you can choose when to trigger that gain. This deferral of tax allows you to continue to invest the profits that otherwise would have been taken by the CRA. In other words, you have more capital working for you when you don’t have to pay tax on the profits every year.
When you are choosing between a TFSA and RRSP for your dividends, it’s a tough call. However, from a tax perspective, you would pick RRSP, because dividends from US companies are still subject to a 15% withholding tax inside a TFSA (yes, not always tax-free).
Dividends in a RRSP, capital gains in a non-registered plan. Follow that rule of thumb and you won’t go wrong.
By Michael Masotti, CFP®, CLU, CIM®. Partner: Novel Wealth. Portfolio Manager: Q Wealth Partners
