I hold units of Brookfield Infrastructure Partners LP (BIP.UN) in my tax-free savings account. My accountant informed me that there are no taxes in a TFSA. However, my discount broker, BMO InvestorLine, has been deducting foreign withholding tax from my quarterly BIP.UN distributions. What is going on here?
As you’ve discovered, tax-free savings accounts aren’t always tax free.
BIP.UN is a Bermuda-based limited partnership that derives its income from holding companies in Canada, the United States and Bermuda. While payments from its operations in Canada and Bermuda are not subject to withholding tax, “payments from holding companies in the U.S. to a Canadian resident … may be subject to withholding taxes,” the partnership explains on its website.
You can generally avoid U.S. withholding tax by holding your BIP.UN units in a registered retirement savings plan or other registered retirement accounts, which are exempt from U.S. withholding tax under the Canada-U.S. tax treaty. However, the exemption does not apply to TFSAs, non-registered accounts, registered education savings plans or other accounts that are not specifically for retirement purposes. The same rules apply to dividends from U.S. companies, which face a 15-per-cent withholding tax unless the shares are held in a retirement account.
In the case of BIP.UN, the good news is that the amounts withheld, if any, are typically much smaller. There was no withholding tax on BIP.UN’s March 31 distribution, for example, and the amount withheld from the Dec. 30 payment was just one cent per unit. In other quarters, withholding tax has been slightly higher or lower. The reason the amounts are tiny is that withholding taxes typically apply only to a portion of BIP.UN’s distribution, not the full amount.
If you can’t stand the idea of paying even a penny of withholding tax, you could move your BIP.UN units to your RRSP. Or, you could swap them for shares of sister company Brookfield Infrastructure Corp. (BIPC), whose dividends are not subject to U.S. withholding tax. (BIPC’s dividend and BIP.UN’s distribution have the same dollar value, but the former qualifies for the Canadian dividend tax credit in a non-registered account.) However, because BIPC trades at a higher price than BIP.UN, and therefore has a lower yield, your investment income will take a hit if you purchase an equivalent dollar amount of BIPC.
I’m not sure it’s worth it to save a small amount of withholding tax every year. If you like BIP.UN as an investment, holding it in a TFSA isn’t a big deal.
I like the holdings of the BMO Canadian Dividend ETF (ZDV), but its performance has been poor. Is this because the fund is chronically paying out more than it collects in dividends?
I don’t know what time period you are looking at, but I wouldn’t characterize ZDV’s performance as “poor.” I’d say “average” is more accurate.
For the 12 months ended March 31, ZDV posted a total return of about negative 6.4 per cent, assuming all dividends were reinvested. That’s not great, but it’s only slightly worse than the S&P/TSX Composite Index’s total return of negative 5.2 per cent over the same period. ZDV’s returns are also in line with those of other dividend ETFs.
Stocks in general, and dividend stocks in particular, struggled over the past year as the sharp rise in interest rates caused share prices to fall and dividend yields – which move in the opposite direction – to rise. More recently, however, as inflation cools and interest rates appear to have peaked, dividend stocks have been rebounding. Year-to-date through April 27, ZDV posted a total return of 7.1 per cent.
Regarding ZDV possibly paying out more than it collects in dividends: I don’t think there’s anything to worry about here. Over the past year, ZDV has paid a cash distribution of seven cents a month, or 84 cents in total. Based on ZDV’s current market price of $20.09, the dividend yield is about 4.2 per cent. That is in line with the yields of the banks, telecoms, pipelines, insurers and utilities that account for a majority of ZDV’s holdings.
In recent years, ZDV – like many other dividend ETFs – has included a small amount of return of capital in its distribution. In 2022, for example, about 13.8 cents was classified as ROC. However, this isn’t necessarily a case of the ETF paying out more than it collects from dividends. ETFs that are growing and bringing in more cash from investors often classify a portion of their distributions as ROC for accounting purposes. Those that have a fixed monthly distribution also use ROC to smooth out the lumpy dividends from stocks in the underlying portfolio.
ZDV is a well-diversified dividend ETF, and its management expense ratio of 0.39 per cent is reasonable. If you’re having trouble deciding which dividend ETF to buy, there’s no reason you can’t choose more than one. In my personal portfolio, I hold both ZDV and the iShares Canadian Select Dividend Index ETF (XDV), as well as several ETFs that track the major Canadian and U.S. stock indexes.
Just as important as the specific ETFs you choose is your behaviour as an investor. Buying and holding through good times and bad, and reinvesting your dividends along the way, is a proven way to build wealth.
E-mail your questions to jheinzl@globeandmail.com. I’m not able to respond personally to e-mails but I choose certain questions to answer in my column.
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John Heinzl