How Is Investment Income Taxed?

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Debbie Pearl-Weinberg, Executive Director, Tax & Estate Planning, Financial Planning & Advice

"When it comes to knowing how your investment income is taxed, you should understand this not just to properly report your income to the Canada Revenue Agency, but also because the type of investment income that you earn impacts the after-tax amount that you actually get to keep in your pocket. ”

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Interest income

“If you receive interest income, that’s fully included in your income at your marginal tax rate, which will differ depending on where in Canada that you live. Interest income is earned on anything from bank accounts, GICs, bonds and all sorts of different notes including principal protected notes.”

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Capital gains

“On the other hand, if you earn a capital gain, only 50% of the capital gain has to be included in your income for tax purposes. Also, you aren’t taxed on capital gains until an investment is sold, or deemed to be sold.”

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Canadian dividends

“Canadian dividends are also taxed at a preferential rate. The amount of the dividend is actually included in your income at a grossed up rate but then you get to claim a dividend tax credit and this reduces the overall rate of tax that you pay on Canadian dividends. This does not apply to foreign dividends that you earn. Those are fully included in your income, just like interest is.”

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Mutual funds

“Lots of people invest in mutual funds. You might receive income or gains that were earned inside the mutual fund that are flowed out to you as an investor. You also might realize a capital gain or a capital loss when you sell your investment in the mutual fund itself.”

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Income from foreign sources

“You may earn income from foreign sources. There are a couple things to keep in mind here. First, whenever you are reporting or calculating your foreign income you need to first convert everything into Canadian dollars. The other thing to keep in mind when you receive foreign income is that there may be foreign withholding tax. Now for non-registered accounts, generally you get a foreign tax credit in Canada to offset the foreign tax that was withheld.”

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Claiming expenses

“You may be wondering if there are any expenses that you can claim to offset the investment income that you earn. If you pay someone to manage your portfolio those fees may be deducted so long as your investments are not held inside a registered plan. Also, if you borrow to invest outside a registered plan, generally you can deduct loan interest you are charged so long as the investments that you purchased have the potential to earn income.”

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Registered plans

“For those investments held in a registered plan you don’t need to include anything in your income when the income and gains stay inside the plan. For a TFSA, assuming you follow the rules, you do not need to include those amounts in your income ever. For an RRSP and a RRIF, you will need to include everything in your income when amounts come out of those plans.

You can read all about this in our report called A Portfolio Less Taxing, Understanding the Taxation of Investment Income.”