Tax rules are confusing at the best of times but to make matters worse, they are changed, updated and reinterpreted all the time. Take for example, my recent investigation into superficial loss rules regarding RRSPs. Last year, I purchased some foreign ETFs such as VEA and VTI in a taxable account. With the New Year rolling around, I would have liked to contribute the ETFs in-kind into my RRSP but with the recent volatility in the markets, the current value of these ETFs is about 15% lower than my purchase price. While I was aware that CRA would disallow a capital loss when contributing in-kind to a RRSP under the superficial loss rules, I was under the impression that I would be able to sell the ETFs, claim a capital loss and buy them immediately within my RRSP.
Thanks to this post on the Canadian Financial DIY blog, I found out that I was totally mistaken. After March 2004, CRA considers a loss as superficial if “a trust and its majority interest beneficiary (generally, a beneficiary who enjoys a majority of the trust income or capital) or one who is affiliated with such a beneficiary” buys (or has the right to buy) a property during the period starting 30 calendar days before the sale and ending 30 calendar days after the sale. Since the RRSP is considered to be a trust and I am the beneficiary, my little plan won’t work anymore. Instead, I’ve decided to contribute a stock that is slightly above my average cost and continue to hold the ETFs in my taxable account.
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12 responses so far ↓
1 Cross the River // Jan 27, 2008 at 9:17 pm
One rule I’ve learned with CRA tax rulings is that if an idea seems real good, someone else has already thought about it and CRA has already reacted.
in other words: DOH!
CtR
2 Green Dreams // Jan 27, 2008 at 10:03 pm
Given that this is an ETF, could you not sell them in the non registered account, take the capital loss, then use the proceeds to buy an equivalent international index mutual fund in your RRSP, wait out 30 days and transfer back to that ETF or whatever your heart desires?
3 Y HAT // Jan 27, 2008 at 10:42 pm
I agree with Green Dreams. Can you not sell VEA in your taxable account and buy XIN in your RRSP?
4 Jon D. // Jan 27, 2008 at 11:59 pm
The MER on XIN is .5% whereas VEA is .15%. XIN is basically a CDN$ holding of the US EFA etf which itself has an MER of .34%.
Basically to reduce fees.
5 Green Dreams // Jan 28, 2008 at 12:05 am
But isn’t the extra 0.35% MER charged for one month likely to amount to less than the tax deduction from the capital loss? After 30 days, if I am interpreting the rule correctly, he can go back to VEA, again with costs involved but depending on the magnitude of the capital loss he’s probably still ahead, no?
6 Canadian Capitalist // Jan 28, 2008 at 9:05 am
Green Dreams: No, it would be considered identical property. For instance, the TD e-Series International Index Fund tracks the same MSCI EAFE index that VEA tracks. In CRA’s eye’s they would be identical property.
XIN is a bit different. It has a currency hedging feature on top of tracking the EAFE Index, so it could be argued that it is a different fund. Whether the CRA would accept the contention, is a different story.
7 Rob Madrid // Jan 28, 2008 at 12:41 pm
Cross the river is correct, general rule of thumb is “We’re bigger than you and if we don’t like it we’ll make life misable for you” .
In general it’s best to err on the side of caution. I’ve had several family members run into problems becuase Revenue Canada (or what ever they called now) didn’t like what they did.
8 JG // Jan 28, 2008 at 6:12 pm
Hi
I just started reading your website, but I’ve gone back and read a fair bit now and am enjoying it. I wonder if you’d be willing to answer two questions (my wording on stuff might be a bit off, being fairly ignorant):
1. If I recall, you say that when having the option you prefer buying the unhedged US market ETFs, figuring the exchange rate will balance out over time. I can see that on average, that’s true, but doesn’t that introduce volatility into your expected return that you’d normally pay (in terms of expected return) to remove. Since you’re Canadian (and paying Canadian prices, etc), doesn’t it make more sense to have everything hedged against changed in the exchange rate. If you want to make up for the loss in MER or whatever, you could go on margin a bit to introduce the corresponding level of volatility and improved returns into your portfolio. Again, sorry if I’ve misworded anything.
2. If you’re concerned about optimizing MER, why not simply replicate the stocks held by an ETF (or whatever). I appreciate it’s more work, but you could probably get a pretty close correspondance just by picking the top dozen or so stocks in a given large-cap ETF - I think that diversifies out most of the possible risk (looking around at various citations). That’s more work, but not crazily more. It does make you pay more for more trades but the lower MER would seem to compensate. Presumably you could just rebalance by buying whatever deviated most from the ETF’s position you were mimicking at your next investment to rebalance.
Anyway, thanks for any help. I’m just thinking about my own financial decisions. Nice blog and cheers.
9 Canadian Capitalist // Jan 28, 2008 at 10:38 pm
JG: Thanks for your interesting comments.
1. Unhedged positions in foreign equity markets has two advantages: lower cost and reduced volatility of the overall portfolio. Foreign currencies on their own have no expected positive returns over cash but adding them to a portfolio provides valuable diversification benefits. Admittedly, not hedging has not worked so great in the past five years but at some point the cycle will turn.
2. The MER on VTI is 7 basis points. On a $10,000 investment that’s $7 per year. Even if you could replicate the performance of VTI with just 12 stocks (i.e. there is no tracking error, which I doubt can be achieved), the extra commissions would more than eat up any savings in MER.
10 Jennie W // Jan 30, 2008 at 1:29 am
Thanks, CC. Just saved out quite a few hundreds of dollars. I was about to take action and buy stocks in RSP !!
Why can our world be fair? We have to claim gains but not the losses?
11 Four Pillars // Feb 6, 2008 at 12:42 pm
CC - Do you know if the superficial loss rules applies to the trade date of stock sale? I had assumed that it did but when I looked at my records I noticed the settlement date was several days later so I’m wondering if I should be using the settlement date to be safe?
12 Canadian Capitalist // Feb 6, 2008 at 1:03 pm
Mike: The wording of the superficial loss rule suggests that the settlement date does not matter - only the sell and buy dates. A few examples I saw through Googling (here) seem to confirm that.
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