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investor clinic

A reader named Peter recently contacted me with a problem: While reviewing his discount brokerage records, he noticed that the “average cost” for his Choice Properties Real Estate Investment Trust units was $19.12.

That’s strange, he thought. Choice Properties REIT (CHP.UN) has never traded anywhere close to $19.12. In fact, since Loblaw Cos. Ltd. spun out the REIT in 2013, Choice’s units have never even topped $15.

Mystified, he e-mailed his discount broker and received a response that only added to his confusion. The math the broker used didn’t add up. “I was taken aback by the convoluted explanation I was getting from the broker,” said Peter. (He asked that his last name not be used but shared screen shots of his account and e-mails from the broker to verify the details.)

The specifics of Peter’s story are a bit complex, but the take-home message is simple: Investors need to verify the average cost – also known as the book value or adjusted cost base (ACB) – of their holdings, because brokers sometimes get these numbers wrong. In Peter’s case, the ACB calculated by the broker was more than twice as high as it should have been.

Fortunately for Peter, his Choice units are held in a registered account, which means the ACB is merely a point of interest. But for securities held in a non-registered account, getting the ACB right is critical. That’s because this figure is used to calculate the capital gain or loss when a security is sold. A mistake could lead an investor to pay more tax than necessary, or it could incur the wrath of the Canada Revenue Agency if the investor inadvertently pays too little tax.

“You’ve got to be really careful,” said Lea Hill, president of ACB Tracking Inc., a service that provides adjusted cost base calculations for REITs, exchange-traded funds and closed-end funds. “Book values as shown by [investment] dealers may not always be accurate.”

To cover themselves, brokers typically include a disclaimer stating that the average cost is provided for information purposes only and that clients are responsible for determining the correct figure for tax purposes.

What made Peter’s situation unusually complex – and what almost certainly gave rise to the error on his statement – was that his Choice units were received in the 2018 merger of Choice and Canadian REIT. Peter had been a CREIT investor, and he received a combination of cash (about 51 per cent) and Choice units (about 49 per cent) for his CREIT units.

The full details of the Choice-CREIT transaction are beyond the scope of this column. But for the purposes of correctly calculating the ACB of Peter’s new Choice units, the key thing to know is that, in the share-exchange portion of the transaction, each CREIT unit was swapped for 4.2835 units of Choice.

Prior to the deal, Peter’s average cost for his old CREIT units was $40.07. To determine the ACB for his new Choice units, he would divide $40.07 by 4.2835, which produces an average cost of about $9.35 per Choice unit – a far cry from the $19.12 figure provided by the broker.

The broker "is only out by about $10,” Mr. Hill joked. “I don’t understand how they came up with that. It doesn’t make any sense.”

I reviewed the discount broker’s calculation, and it appears that the broker calculated the total cost for all of Peter’s original CREIT units. But then the broker mistakenly divided this total cost figure by the number of Choice shares Peter received in the share swap, without first adjusting the numerator to exclude the cost of the 51 per cent of the CREIT shares that were acquired for cash. This vastly inflated the average cost for each Choice unit that Peter received.

For non-registered investors, the share-exchange portion of the Choice-CREIT transaction is considered a tax-deferred “roll-over," meaning there are no tax consequences until the investor ultimately sells his or her Choice units. The capital gain, or loss, is determined by subtracting the adjusted cost base of the Choice units from the eventual selling price. (Only half of the capital gain is taxable).

The 51-per-cent cash portion of the deal, on the other hand, is taxable immediately. The capital gain, or loss, is effectively the cash takeover price of $53.75 minus the investor’s adjusted cost base for each CREIT unit, multiplied by the number of units. Specific details of how the transaction should be reported for tax purposes will be included on T3 slips that are typically mailed out at the end of March.

For his part, Peter now knows that he needs to double-check his broker’s ACB calculations.

“This is a good lesson for me,” he said.

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