Advisor Jason Pereira will still be using corporate-class funds after September 30.
A longtime advocate of the structure, Pereira was disappointed by the federal budget’s edict that switching will no longer be tax-free.
“The benefits lessen as a result,” says Pereira, partner and senior financial consultant at Woodgate Financial. “But frankly, in terms of the tax deferral, [the funds] are still completely applicable. […] Corporate-class funds let you put off your tax bill.”
How does the deferral work?
The various funds within the mutual fund corporation earn interest, dividends and capital gains. “Ideally, you want to make them all disappear, because that way you’re not paying tax on them,” he says.
To make that happen, the corporation takes the most highly taxed income first — interest — and uses it to pay expenses. For instance, “interest can pay for a tech fund’s expenses, since it has no income or dividends.”
Then, capital gains are written off against capital losses. “Dividends are often used to write off expenses in excess of what the interest didn’t cover.” (Dividends and capital gains can also be distributed out to the unitholders, which he says has been common lately.)
Corporate-class funds also help defer capital gains as a result of turnover. They’re also good for seniors, because they can defer dividend income, which can lead to OAS clawback.
“We’ve separated the timing of income generation and the timing of taxation. You can plan how much tax someone can pay off their portfolio in any given year.”
For instance, Pereira says, you could put a high-income earner in corporate class now, and when she retires, she could take capital gains in those years when she has little other income. “It allows us to manage their tax bill more effectively.”
Read: Budget quick hits
What to do now
Despite the changes, Pereira will continue recommending corporate-class funds.
Between now and October 1, he doesn’t expect to make many tweaks. “If there was anyone for whom we’d have to make an allocation shift in the next three years, we may make the move sooner to avoid the taxation issue.”
And after that, “I’m going to be more cognizant of what someone’s stage in life is. If I had someone I was going to move into an income portfolio in their late 60s, I might do that sooner now, knowing I’d be locked into it.”
And there’s another option for people who want to ratchet down their risk from, say, 60/40 to 50/50. “The back door is to use a corporate-class T-series fund to take return of capital and then invest that more conservatively.” That is a gradual solution, though, since you can only take back 8% of capital each year.
“Overall, corporate-class funds still make sense. One of the advantages is gone, but they still live to fight another day.”
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