Starting Out

Your Taxes
Do you consider the after-tax rate of return when choosing your investments? You should; the investments you choose directly affect your after-tax return.

While there are thousands of investment options available to you today, there are only three types of investment returns - interest, dividends and capital gains - and each one is taxed differently.

Interest
Interest does not receive any preferential tax treatment; it's taxed as ordinary income at your marginal tax rate. Interest income is paid on investments such as Guaranteed Investment Certificates (GICs), government and corporate bonds and certain mutual funds such as money market or bond funds. It is taxable in the year it is paid to you, even for long-term investments that do not pay income annually, such as a five-year GIC.

Dividends
If you receive dividends from Canadian companies, the income tax rate applied is significantly reduced because of the dividend tax credit. At lower levels of income, the dividend tax credit can eliminate the tax on dividends altogether. Keep in mind that this rule only applies to dividends from Canadian companies; foreign dividends are taxed in the same manner as interest income.

Capital Gains
Capital gains also receive preferential tax treatment. Only 50% of a capital gain is taxable. Since capital gains are taxed only when realized, you are able to defer the taxation of the gain to when the investment is sold. For example, If you purchase a $10,000 investment that grows at a rate of 6% per year and sell the investment after five years for $14,186, the $4,186 capital gain will be taxed only in the year you sell the investment, not annually as would be the case with interest income. What's more, the tax is calculated based on the capital gain inclusion rate and income tax rate applicable in the year of sale. One exception is a capital gains distribution from mutual funds, which would be taxable when received.

For more information, contact an Investment Advisor at a BMO Nesbitt Burns branch near you.

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Note: These comments are not intended to be a definitive analysis of tax law: The comments contained herein are general in nature and professional advice regarding an individual's particular tax position should be attained in respect of any person's specific circumstances.