INVESTOR CLINIC

# Your back-to-school investing quiz queries answered Add to ...

Thanks to everyone who took last week’s annual Investor Clinic back-to-school quiz.

As promised, today – based on your e-mails – I’ll be explaining some of the trickier questions. Haven’t taken the quiz yet? You can find here. Let’s start with a relatively straightforward one, question No. 2:

Gladys contributed the maximum to her TFSA every year from 2009 through 2015 and made no withdrawals. On Sept. 1, 2016, she contributed \$3,000 and withdrew \$2,000 three weeks later. How much is she allowed to contribute to her TFSA on Dec. 1, 2016?

a) \$2,000

b) \$2,500

c) \$4,500

d) \$5,500

You need to know two key things here. First, the maximum TFSA contribution for 2016 is \$5,500. Second, TFSA withdrawals are not added back to contribution room until Jan. 1 of the following year. Therefore, on Dec. 1, 2016, Gladys’s contribution room would be \$5,500 minus \$3,000, which is b) \$2,500.

Question No. 6 was tougher, based on the many queries I received from readers (including one who insisted my answer was incorrect):

In a non-registered account, Chuck bought 100 shares of a U.S. stock for \$75 (U.S.) when the Canadian dollar was trading at 97 cents (U.S.). If he sells the shares for \$90 (U.S.) when the loonie is at 77 cents (U.S.), his capital gain would be:

Capital gains must be calculated in Canadian dollars based on the exchange rate in effect on the purchase and sale dates. The cost to purchase the 100 shares was \$7,500 (U.S.) or \$7,731.96 (Canadian), calculated as \$7,500 divided by \$0.97. Proceeds of the sale are \$9,000 (U.S.) or \$11,688.31 (Canadian), calculated as \$9,000 divided by \$0.77. The capital gain would therefore be \$11,688.31 minus \$7,731.96, or c) \$3,956.35 (Canadian). One reader argued that the correct answer should have been \$3,756.35 to reflect an exclusion on the first \$200 of foreign currency gains. But this exclusion (see Section 39(1.1) of the Income Tax Act) applies strictly to currency dispositions, not to the foreign currency portion of a stock disposition, said Jamie Golombek, managing director, tax and estate planning, with CIBC Wealth Strategies Group. “You are correct. The reader is wrong,” Mr. Golombek said.

Next up is No. 8, which was a bit of a trick question:

Which of the following statements is true?

a) The dividend tax credit (DTC) applies to some U.S.-listed stocks

b) Dividends are always taxed at a lower rate than capital gains

c) Capital gains are always taxed at a lower rate than dividends

d) The DTC does not apply to Canadian companies that pay dividends in U.S. dollars.

Dividends can be taxed at lower rates than capital gains (this is generally true at lower income levels) or dividends can be taxed at higher rates than capital gains (typically at higher income levels), which rules out b) and c). Answer d) is also false, because dividends paid by Canadian companies in U.S. dollars can indeed be eligible for the DTC. The correct answer is a). Many dividend-paying Canadian companies are also interlisted on a U.S. exchange – all of the Big Five banks, for example.

Several readers expressed surprise at the answer to No. 10:

If you had purchased \$10,000 of Royal Bank of Canada shares on Sept. 7, 1996, and reinvested all of your dividends, on Sept. 7, 2016, your stock would be worth about _______ (ignore all taxes).

a) \$2.19-million

b) \$219,000

c) \$91,000

d) \$21,900

I obtained the answer b) \$219,000 from www.longrundata.com. I got a similar answer from the total return calculator. It works out to an annualized total return of more than 16 per cent and demonstrates the impressive wealth that one can accumulate by buying great companies and reinvesting dividends to maximize compounding. I’m not suggesting Royal Bank will perform as well over the next 20 years – although it would be nice.

Finally, let’s look at No. 11, which tripped up a lot of readers:

Joey Bats buys 200 shares of Rogers Communications for \$30 each. He then sells 100 shares at \$40 each. Finally, he purchases 300 shares at \$50 each. His adjusted cost base per share on the 400 shares he owns is:

a) \$42.50

b) \$45

c) \$47.50

d) \$48

Many readers fell into my trap and picked a) \$42.50. They started with Joey’s original investment of \$6,000 (200 times \$30), subtracted the sale proceeds of \$4,000 (100 times \$40) and added the final purchase of \$15,000 (300 times \$50). Then they divided the net result of \$17,000 by 400 to get \$42.50. But this is not the correct way to calculate the ACB per share. The key thing to know is that, when you sell part of your shares, the ACB per share of your remaining shares doesn’t change. So, after selling 100 shares at \$40 each, the ACB of Joey’s remaining 100 shares is still \$30 a share, or \$3,000 in total. If you add \$3,000 to the \$15,000 cost of the 300 shares Joey buys at \$50 each, you get \$18,000. Divide that by 400 shares and you get the correct answer, b) \$45.

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