Maxed out your RRSP and TFSA?
Building your non-registered investments: Consider corporate class funds.
Corporate class mutual funds don’t always capture the spotlight, but they can be a tax-efficient alternative for investors and their non-registered investments.
“The only two certainties in life are death and taxes,” Benjamin Franklin famously wrote in 1789. That’s a good starting point for any investment philosophy. No one wants to outlive their money, and no one really wants to pay more tax than necessary.
When it comes to tax planning, most Canadians are familiar with the advantages offered by RRSPs, TFSAs and RESPs. But what happens when you’ve used all of your contribution room and still have money to invest? You may want to consider corporate class mutual funds, a type of investment vehicle that can offer tax advantages to a wide range of individuals, from investors and retirees to business owners and philanthropists.
A more tax-efficient investment vehicle
Corporate class funds have been around for decades, though they’re still relatively unknown by many. While they may not get as much attention as the conventional mutual fund or, more recently, the exchange-traded fund (ETF), they’re still an incredibly useful tool for Canadians who are looking for potential ways to save on tax.
In many respects, traditional mutual funds and corporate class funds are close cousins. Both pool investments from shareholders, using that money to build portfolios and pay out distributions. The two kinds of funds can also hold stocks, bonds and other assets. Where they differ is in their legal structures and their potential tax efficiency for non-registered investments.
Taxed as a corporation
A mutual fund corporation is a single legal entity. Instead of taxing each individual mutual fund within the corporation, the corporation is taxed as a whole.
This can result in tax benefits, which is why corporate class funds are often referred to as “tax‑efficient” or “tax‑smart.” While they may not reduce the tax paid in every situation, they do allow investors to organize their investments to increase the potential for tax savings.
A key difference between traditional mutual funds and corporate class funds is that the latter are only allowed to distribute dividends from Canadian stocks and capital gains dividends, both of which are taxed more favourably than regular income. Corporate class funds cannot distribute interest or foreign income. Such income is retained within the corporation, where it is subject to taxation unless it can be offset by expenses and the class structure itself can pay income tax which can reduce any tax benefits.
By using corporate class funds, an investor can potentially reduce or defer taxes, leaving more money in the investor’s account to benefit from compound growth. From a tax point of view, this is usually preferable to, for instance, holding a conventional balanced mutual fund, which pays interest and foreign income that is taxable at an investor’s marginal tax rate.
Pay less. Pay later. Keep more with Fidelity Tax-Smart CashFlow™.
Investors can save even more by combining corporate class funds with Fidelity Tax-Smart CashFlow™ (T-Class). Fidelity Tax-Smart CashFlow provides investors with cash flow by returning their original investment principal, as a return of capital, over time. This cash-flow is not subject to current taxation – just like withdrawing money from an ATM machine is tax-free. Essentially giving you your original money back, and keeping the gains at work in your investment account. The return of capital reduces your adjusted cost base, so it should be thought of as a tax deferral.
Once an investor’s capital has been returned, the subsequent cash flows are treated as capital gains, which are taxed at a more favourable rate than income. This option lets investors receive tax-efficient cash flows without having to sell their holdings, while at the same time deferring taxable capital gains.
Fidelity Corporate Class and Fidelity Tax-Smart CashFlow: Ideal for most non-registered investments
Both corporate class and Fidelity Tax-Smart CashFlow structures can be especially beneficial for retirees. Since the returned capital isn’t counted as income, it can help reduce or avoid any potential Old Age Security payment clawbacks.
Philanthropists may consider using Fidelity Tax-Smart CashFlow as a tax-efficient way to donate to charity. The value of a donation (whether cash or “in-kind”) is used to determine a tax credit, saving taxes for the donor. Charitable giving with Fidelity Tax-Smart CashFlow allows you to receive tax-deferred cash flow payments from your investments and donate to a worthy cause in a tax-efficient way.
Corporate class provides the same tax-efficient benefits for those who may want to create trust accounts for children or grandchildren. Generally, parents or grandparents are taxed on interest and dividends received before the child turns 18. However, corporate class has the potential to reduce distributions, thereby minimizing the potential tax burden before the beneficiary turns 18.
Corporate class funds suit a variety of investors. For instance, individuals who have maxed out the contribution room in their registered accounts can use them as a tax-efficient vehicle for non-registered investments.
Find the solution for you.
When it comes to your non-registered investments, corporate class mutual funds and Fidelity Tax-Smart CashFlow can be effective tools to make the most of your hard-earned savings. Fidelity offers more than 80 options for corporate class investments, enabling investors to create tax-smart solutions, whatever their tax and income status, time horizon and investment objective. Talk to your advisor about what Fidelity Tax-Smart Solutions™ are best for you.
Commissions, trailing commissions, management fees, brokerage fees and expenses may be associated with investments in mutual funds and ETFs. Please read the mutual fund or ETF’s prospectus, which contains detailed investment information, before investing. Mutual funds and ETFs are not guaranteed. Their values change frequently, and investors may experience a gain or a loss. Past performance may not be repeated.
A return of capital reduces an investor’s adjusted cost base. Capital gains taxes are deferred until units are sold or until the ACB goes below zero. Investors should not confuse this cash flow distribution with a fund’s rate of return or yield. While investors in Fidelity’s tax-efficient series (Tax-Smart CashFlow) will be able to defer some personal capital gains, they must still pay tax on capital gains distributions that arise from the sale of individual holdings by fund managers, and on interest and dividend distributions. Tax-Smart CashFlow will also pay a year-end distribution that must be reinvested in additional securities of the applicable fund. The monthly cash-flow distributions on Tax-Smart CashFlow are not guaranteed, will be adjusted from time to time and may include income.
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