5 Things Investors Should Consider Before the Year Ends

Includes: AXIT, MFC
by: Larry MacDonald

The end of the year is fast approaching. For investors in taxable accounts, it can be an important time. There are several tax-related opportunities and pitfalls to consider.

1. Tax-loss selling

If you have a non-registered investment account with losing positions, consider selling some or or all of them to claim capital losses that can be applied against past, current or future capital gains. Taxes can be reduced significantly when taxable capital gains are offset in part or whole.

Say goodbye to the losers and plow the proceeds into better investments. Even if there aren’t any better investments, you can still sell the losing stocks and buy them back after the 30-day period required for avoiding the “superficial-loss” rule.

Don’t like the risk of buying back at a higher price? Then purchase a proxy at the time of sale. The preferred proxy will have similar price movements yet be different enough to avoid triggering the superficial-loss rule. One of the attractions of exchange-traded funds (ETFs) is that they often fit the aforementioned description. The proxy, whether it is an ETF or a stock, can be retained on a long-term basis or be replaced by the original security after 30 days have elapsed.

2. Tax-loss (and window-dressing) bargains

The period just before Christmas is when tax-loss selling tends to peak, heightening the downward pressure on out-of-favour stocks. As a result, even greater bargains may emerge among the downtrodden. That is why contrarians Benj Gallander and Ben Stadelmann of the Contra the Heard advisory say they do the bulk of their buying at this time of year. If you have a value or contrarian bent, you might consider some bargain hunting as well.

Another thing that happens at this time of year is “window-dressing” by professional money managers. This means they’ll be selling losing stocks so that their year-end financial statements won’t look so embarrassing. An example of a stock that could be impacted by this phenomenon this year is Manulife Financial (NYSE:MFC).

3. Capital-gains distributions

Be wary of capital-gain distributions by mutual funds and ETFs. When funds sell stocks during the year and register capital gains, the year end is when they distribute them to be taxed in the hands of unitholders. Sometimes the dollar amounts can be significant and come as a shock to the unwary. In 2008 for example, the CDN Tech Sector Index ETF (TSX: XIT) distributed a capital gain of about 20% of the price

Investors may thus want to be alert to owning or buying funds as the year end approaches. It’s not too hard to ascertain if a fund is headed toward a capital-gains distribution. In fact, fund companies often give advance warning in news releases, on their websites or to people who call in with inquiries. In most cases, the distribution will be too small, or even non-existent, to worry about.

4. Attention ETF unitholders: don’t pay tax twice

ETF holders in taxable accounts could end up paying taxes twice if they don’t keep track of their adjusted cost bases (ACBs). Recall that when you report a capital gain to the taxman, it is calculated as the difference between the amount of money received (net of commissions) and the ACB — which is equal to the total amount paid to buy a security (less commissions/fees) + reinvested distributions – return of capital – ACB of previous sales.

Mutual funds calculate ACB for their clients. But ETFs don’t. So if unitholders forget to include it when filing their tax return with the CRA, they’ll pay tax again on the distributed capital gain.

5. RESP contributions

The annual deadline for [Canadian] RESPs comes at the end of December. Act before then if you have contributions to make.