Feds Target Tax Shelters

Relatively minor changes in the recent federal budget will affect the tax-effectiveness of some investments, and force up-front payment while tax shelter claims are investigated.

The recent federal budget has been referred to as “tight fisted” by some commentators because it contains the ”smallest increase in discretionary spending in nearly 20 years,” as Finance Minister Jim Flaherty put it. The budget’s size is in line with his plan to have a balanced budget by 2015-16.

The overall theme was “Jobs, Growth and Long-Term Prosperity.” The budget contained a few new initiatives to support this objective, including a job grant program to help Canadians improve skills shortages, support for the manufacturing sector, infrastructure funding of $5 billion a year for 10 years and the elimination of some tariffs on baby clothes and sports equipment.

What about the implications for those looking for tax strategies?

Some of the more interesting measures include changing the way “character conversion transitions” are taxed. These are strategies used in some fixed-income mutual funds to change interest income (which is taxed at the highest rate) into capital gains (taxed at a lower rate) through the use of forward contracts. This budget proposes the elimination of this practice, which would hurt the tax effectiveness of these funds. Another change is the elimination of the tax deduction for rental fees paid on safety deposit boxes. Until this budget, Canadians could deduct safety deposit box rental fees if they were used to store and protect financial documents.

The government will also be discouraging Canadians from participating in questionable tax shelter schemes. Previously, if a credit claimed by a taxpayer was denied and the taxpayer challenged this decision, the government could not collect any of the outstanding funds until the dispute was resolved. The government will now be able to collect 50 per cent of the disputed tax during the appeal period.

Finally, the gross-up and tax credit for “non-eligible dividends” (dividends from Canadian-controlled private corporations that pay the small business tax rate) will be reduced, increasing the amount of federal tax payable on these dividends.

On the positive side, for individuals with a generous bent, this budget proposes a “super tax credit” for first-time donors to registered charities. Intended to encourage young people to make charitable donations, the new one-time credit will allow a 40-per-cent federal tax credit on the first $200 donated and a 54-per0cent credit on donations between $200 and $1,000. This credit will be available until 2018.

As well, effective in 2014, the budget increases the lifetime capital gain exemption to $800,000 (up from $750,000) on sale of “qualifying property” (such as qualifying small business corporation shares). Unfortunately this does not help investors in public companies.

How will the budget affect your investment portfolio? Overall, investment advisors at Leith Wheeler do not think it will have a big impact. We expect interest rates to remain low until at least 2014. Our outlook for bonds and stocks has not been materially impacted by the budget. In the longer term, eliminating the deficit and reducing overall debt levels will be positive for the Canadian economy and capital markets. We continue to advise clients to make their investment decisions based on their unique investment objectives, taking into consideration their tolerance for risk and their income needs.


Karey Irwin, CFP, is a vice-president and portfolio manager at Leith Wheeler Investment Counsel Ltd. in Vancouver. The article is not intended to provide advice, recommendations or offers to buy or sell any product or service.