"Do you know the only thing that gives me pleasure? It's to see my dividends coming in."
- John D. Rockefeller
Dividends may be a source of pleasure, but figuring out the taxes on them can be a pain, judging from some of the reader e-mails we receive at Investor Clinic.
That's especially true when the dividends are received from U.S. companies. So today, we've brought in a tax expert to help clear up some of the confusion.
Let's get straight to your questions.
A withholding tax of 15 per cent is being applied to dividends payable on U.S. equities in my tax-free savings account. Are the taxes recoverable? - B.L.
Unfortunately, the answer is no, says Brian Quinlan, partner at Campbell Lawless chartered accountants in Toronto.
The 15-per-cent U.S. withholding tax also applies to U.S. dividends received inside a registered education savings plan, he says. That's because TFSAs and RESPs don't qualify as retirement or pension vehicles under the Canada-U.S. tax treaty.
"If you hold U.S. dividend stocks inside a TFSA or RESP, you're kind of out of luck. So the plan would be not to do that," Mr. Quinlan says.
Investor Education: TFSAs
When U.S. dividend stocks are held inside a registered retirement savings plan or registered retirement income fund, on the other hand, there is no withholding tax on U.S. dividends. So the entire amount will land in your account (adjusted for currency). That's why many investors prefer to hold U.S. dividend stocks inside an RRSP or RRIF.
Things are a bit more complicated if you hold U.S. dividend stocks in a non-registered account. You'll pay the 15-per-cent U.S. withholding tax off the top. And because U.S. dividends don't qualify for the Canadian dividend tax credit, you'll pay tax at your marginal rate on the full amount of the dividend.
But the 15-per-cent withholding tax would qualify for a foreign tax credit on your Canadian return. So, for most investors, the net result is that U.S. dividends held in a non-registered account will be taxed at the same rate as interest income.
I need your help understanding how the special dividend declared by Sears Canada will work. On the ex-dividend date, the price of Sears will be reduced by about $3.50 a share. Assuming I sold the shares for less than I paid for them, this would appear to be a capital loss, even though I will still come out ahead, including the dividend. How would I report this when I file my income tax next year? - J.C.
The $3.50 special cash dividend is payable to shareholders of record as of May 31, so the last date an investor can buy the shares and still receive the dividend is May 26 (three business days before the record date). The stock will begin trading "ex-dividend" on May 27, when the price is expected to fall by roughly the amount of the dividend.
To answer your question, if you sell the stock for less than you paid, this would indeed give rise to a capital loss, which you would report on your income tax return, Mr. Quinlan says. If you can't use the loss in 2010, the capital loss can be carried back up to three years or carried forward indefinitely to offset capital gains.
Separately, you would also report the $3.50-a-share dividend on your tax return. Because the dividend qualifies for the Canadian dividend tax credit, you will likely be paying far less tax on the amount than you would if it were interest income.
Your confusion seems to arise from the fact that, including the dividend, you will have made money on your Sears Canada purchase. While that may be true, the capital and dividend portions of your investment are treated separately for tax purposes, so it's possible for an investor to report a capital loss while still making a positive total return - including dividends - on an investment.
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