November 2000

Lower Taxes a Big
Benefit for Investors

© Talbot Stevens

After years of suffering from high taxes, there is finally good news for all Canadians who pay taxes and invest. Tax rates are finally starting to come down. Almost as important is the fact that political battles are now being fought with actual tax cuts, coupled with promises of further reductions in the future.

Thanks to a strong Canadian economy, the federal and many provincial governments have seen deficits turn into surpluses. This has given the government the freedom to stop increasing taxes, and start cutting them.

Since the February federal budget, there have been many tax reductions including the removal of bracket creep and some of the surtaxes, an increase in the basic personal exemption, a drop in tax rates in general, and the reduction in the portion of capital gains that are taxable.

While taxpayers can argue that these improvements are just a start, investors are much better off than they were even a year ago, especially those that have equity investments outside of RRSPs.

The most significant tax change for investors is the reduction in the capital gains inclusion rate from 75% to 50%.

Throughout the 90s, the capital gains inclusion rate was 75%. This means that if you sold an investment for more than you paid for it, you paid tax on 75% of the gain. In the 2000 federal budget, the rate was reduced to 67%, and then in the fall's mini-budget, it was cut to 50%.

For equity investors whose goal is to produce retirement income, the benefit from these tax changes is significant. Middle-income baby boomers who invest in equity funds for 20 years should now produce an after-tax retirement income that is approximately 20% higher than possible with the higher taxes of a year ago.

For many baby boomers in the top tax bracket, non-registered investments they make today are not needed to produce retirement income, and the real goal is to maximize the estate. In this case, the benefit from the reduction in the capital gains inclusion rate is even greater.

Many high-income baby boomers will see the after-tax estate value produced from equity investments increase by around 30%.

Having just published a new booklet entitled "Talbot's Summary of Dispelling the Myths of Borrowing to Invest", I should add that these tax reductions also increase the potential benefits of borrowing to invest outside of RRSPs.

The lower tax rates in general and the reduced tax on capital gains, again raises the issue of whether investors are better off keeping the equity portion of their portfolio outside of RRSPs.

My research clearly shows that some Canadians will produce more after-tax retirement income by investing some of their equity funds outside of RRSPs, particularly those close to retirement.

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