Welcome to Investor Clinic – the lightning round.
Your questions have been piling up in my in-box, and today I’ll answer as many as space permits. That means I’ll need to keep the answers brief.
What investments are best for a registered education savings plan?
First, avoid group scholarship plans. There are too many fees and restrictions, and you could lose money if you leave the plan early. Consumer complaints prompted regulators to clamp down on these plans.
A better option is to open a self-directed RESP with a discount broker. You’ll benefit from lower costs and greater control over your contributions and investments. The basic rule of thumb is to gradually dial down the risk of the portfolio as the child gets older, because the last thing you want is a nasty stock market slump just before he or she needs the money for postsecondary education.
For most people, a combination of guaranteed investment certificates and one or two low-cost equity exchange-traded funds ought to suffice. (I like dividend ETFs, as discussed earlier this year.) When the child is young, ETFs could account for more than half of the portfolio if you’re comfortable with that risk level. By the time he or she is heading off to college, short-term GICs and cash should make up most of the assets. Read here what some investment professionals have put in their own kids’ RESPs.
What happens if I sell a stock before the dividend is paid? Will the dividend be prorated for the period I owned the stock?
No. You either get the full dividend, or nothing. To receive it, you must have purchased the stock before the ex-dividend date, which is usually a few weeks before the payment date. Ex-dividend dates, record dates and payment dates are explained in detail here.
You have mentioned that any individual stock should account for no more than 5 per cent of your portfolio. Are there similar limits on sector exposure as well?
The 5-per-cent rule isn’t carved in stone; it’s just a guideline that will save you from going overboard on any one company, thus limiting the losses should something go wrong. With sector weightings, I generally keep my exposure to less than 20 per cent. Again, this is somewhat arbitrary, but it prevents me from putting an unduly large chunk of my portfolio into a single sector that could be hit by a industry-wide problem.
I have several Canadian dividend stocks in my registered retirement savings plan. When I convert my RRSP into a registered retirement income fund, can I withdraw the dividends that have accumulated and use the gross-up and dividend tax credit to reduce my tax owing?
No. When money is withdrawn from a RRIF, it is added to your income. The Canada Revenue Agency doesn’t know or care if it came from a dividend, capital gain or interest inside the RRIF. The gross-up and tax credit applies only to eligible Canadian dividends received in a non-registered account.
What should I put in a tax-free savings account?
I’ll tell you what not to hold in a TFSA: cash. Cash doesn’t pay much interest and therefore doesn’t attract much tax, so putting it in your TFSA defeats the account’s purpose. Assuming you have other investments – for example, higher-yielding GICs, bonds or stocks that pay dividends and will likely generate capital gains over the long run – you will save yourself more tax by putting these inside your TFSA instead.