ETF investors have long clamoured for Currency unhedged funds traded on the TSX for reasons outlined here, here and here. While it is true that Canadian investors can get direct access to foreign stocks through a long list of ETFs that trade in the US exchanges, these funds have one drawback that cannot be overcome — US-listed ETFs are considered in situ property and could be subject to US Estate Taxes. Granted, US Estate Taxes have become less problematic for most Canadian investors since the passing of last-minute legislation to avert the fiscal cliff. Essentially, Canadians with less than $5 million (US) in total assets will be able to avoid US Estate taxes entirely.

Still, Canadian-listed ETFs that do not hedge currency will be valuable for investors who do not want to look for cheaper methods of converting Canadian dollars into US dollars and who do not want to pay the usurious foreign exchange fees charged by most discount brokers. Last year, Vanguard Canada introduced the S&P 500 Index ETF (TSX: VFV, MER 0.18 percent), a fund that tracks the S&P 500 index. Now, iShares has launched three new ETFs that started trading on the TSX yesterday. They are:

iShares S&P 500 Index ETF (XUS): Track the S&P 500 index, a market-cap weighted index of 500 large US corporations. MER is 0.14 percent. Note that the ETF is essentially a wrapper around the iShares Core S&P 500 ETF (IVV) that trades on the NYSE Arca exchange.

iShares MSCI EAFE Index ETF (XEF): Track the MSCI EAFE index, a market-cap weighted index that tracks stocks from Europe, Australasia and the Far East (essentially an index of developed market stock markets excluding the US and Canada). MER is 0.30 percent. The ETF is a wrapper around the iShares Core MSCI EAFE ETF (IEFA).

iShares MSCI Emerging Markets ETF (XEC): Track the MSCI Emerging Markets Index, a market-cap weighted index that tracks stock market performance of emerging markets. MER is 0.35 percent. The ETF is a wrapper around the iShares Core MSCI Emerging Markets ETF (IEMG).

Take-away for Investors

  • These ETFs are great news for Canadian investors wanting Developed Markets ex North America and Emerging Markets exposure from securities listed in Canada but do not want currency hedging because the new ETFs are far cheaper than existing alternatives.
  • Investors should keep in mind that owning a Canadian-listed ETF that holds foreign securities in their RRSPs means incurring a 15 percent withholding tax hit on dividends. i.e. an investor who holds $1,000 worth of XUS in a RRSP will incur a tax hit of $3 per year compared to holding $1,000 worth of IVV. Note that the withholding tax hit is only for RRSPs and RRIFs.

This article has 9 comments

  1. Pingback: Dividend Roundup Time | The Dividend Guy Blog

  2. I guess the big question is: is it worth buying these guys or converting your money to US$ and buying VEA and VWO? What do you think?

    • @Vaan: I personally think that a Canadian investor is better off converting CAD into USD and buying ETFs on the US market. However some caveats apply:

      1. When one’s total world wide assets exceeds $5 million ($10 million for a couple), US Estate Taxes and hence these new ETFs will become a consideration.

      2. If one is not able to convert CAD into USD and vice-versa cheaply, then these ETFs may become an option.

  3. It’s been my experience that the real benefit to these types of US $ ETF’s is for investors that do not have a USD $ Trading or Registered account. It’s the currency exchange that really hurt the returns if you’re having to take the Brokers exchange rate when changing funds into USD $. The ETF company will just about always get a better exchange rate the I can as an individual investor.

    Ideally though, if you want to hold ETF’s (or stocks for that matter) that are denominated in USD$ then you want to get a US $ trading or Registered account.

  4. What about these funds in a TFSA? Does the withholding tax apply?

    I might consider this as I don’t have the USD account option for RRSP in my CIBC InvestorsEdge. Still considering moving to RBC however, but then again the 6.95 trades I get from CIBC make it a hard decision.

    • Canadian Capitalist

      Withholding taxes apply in a TFSA for these ETFs. The withholding tax also applies if you directly hold the underlying US ETF directly.

  5. I have a question for you…in your Take-away on Canadian listed ETF’s that hold foreign securities you mention that withholding tax will apply on foreign earned dividends if the ETF is held in an RRSP. My understanding was that dividends on US stocks held in an RRSP were tax free. Is the complication that if the Canadian listed ETF holds foreign securities the ETF pays the withholding tax before it ever gets to the investor? So it doesn’t really matter which account they are in, is that right?? Is it the same situation if I buy a US listed ETF directly, eg QQQ? Complicated!

    • Canadian Capitalist

      @Scotty: A Canadian ETF holding US ETF pays withholding tax to IRS on distributions received from the underlying ETF. This withholding tax is not recoverable if a Canadian investor holds that ETF in a RRSP account. If the Canadian investor had held the US ETF directly instead then no withholding tax is applied.

  6. Are you sure XEF is a wrapper around a US ETF? When I look at the holdings listed on the iShares website, it looks like XEF holds the shares directly.