(February 23, 2005) In a surprisingly bold stroke for a government presenting the first minority budget in 25 years, Finance Minister Ralph Goodale has opted to ditch the foreign property rule and raise the contribution limits for registered plans. While the 2005 budget has something for everyone — even gold bugs — the investor-friendly provisions somehow escaped the normal process of being telegraphed before budget day.
The budget also raises the basic personal exemption rate on personal taxes to $10,000 by 2009, a move Ottawa estimates will remove 860,000 Canadians from the tax rolls and includes a host of measures for seniors and disabled Canadians.
In budget documents, Goodale clearly acknowledges the government is following "an ambitious agenda," while staying the course with balanced budgets.
Still, not everyone was surprised. Dave Clarke, tax manager at Collins Barrow in Ottawa, who joined Advisor.ca in the budget lockup said that, given a minority government, he expected strong measures. On the other hand, some of those changes aren't all that dramatic.
On the basic personal exemption increase, "we would have got there anyway through indexing," Clarke says. "And since it's dragged out over a number of years, it doesn't give you immediate tax relief, so it's fairly minor.
RRSP limit to hit $22,000
|Feds scrap foreign content rule, raise RRSP limits|
Goodale threw a bone to the investment community, who have been pushing changes to RRSP limits for years, with a general target of $27,000. (To find out more about what they have been asking for, please click here.) Contribution limits for all registered plans, including RRSPs, deferred profit-sharing plans, pension plans and money purchase plans are now slated to rise to $19,000 in 2007, increasing by $1,000 each year until 2010, when the $22,000 limit will be indexed to the average growth in wages.
"Increasing RRSP limits is an easy one," Clarke says. "But it's really for the wealthier part of society because most people can't contribute fully to their RRSP anyway so it won't mean a whole lot to them."
AIC's managing director, national tax services, Tim Cestnick, concurs. "That's pocket change. It's not something that the average Canadian is going to benefit from significantly because most don't maximize their RRSP savings anyway."
The limit, long-frozen through the 1990s, was raised from $13,500 in 2003. For the 2005 tax year, it stands at $16,500. There is no change in how much income an investor can put in a tax-advantaged plan. It is currently 18%. At that rate, the higher $22,000 limit would benefit a taxpayer with a $122,000 income. For members of a defined benefit pension plan, the higher limits, hitherto pegged to average wage growth, will allow for improved benefits without reducing RRSP contribution room.
"This is also good news," says Jamie Golombek, vice-president, taxation and estate planning, at AIM Trimark. Still, while conceding the change primarily benefits upper-income Canadians, he notes that "the limits are still below what can be socked away in a government defined benefit plan."
Free to invest the world
Unexpectedly, Goodale also bowed to an insistent chorus from the institutional investment community to drop the foreign property limit entirely this year. The rule kept Canadians from investing more than 30% of their registered assets in foreign securities. Institutional investors have long argued that, since Canadian stocks constituted less than 3% of the world's market capitalization, pension plan members were deprived of the growth opportunities that unconstrained global diversification would provide.
"I never looked at that as too restrictive because people found ways to get around that," says Cestnick. "What it means for fund companies is that RSP clone funds are a thing of the past."
The foreign property rule, instituted in 1971 expressly to encourage the growth of Canadian capital markets, is no longer required, the budget says, because, as Canada's capital markets have "become more integrated with global capital markets, access to capital for Canadian companies has improved substantially." (To learn more about how the foreign property rule affects investors, click here.)
Saying that the move was both overdue and "a major win" for investors, Golombek argues that it does more than make clone funds obsolete. "We were hoping for this five years ago when they increased [the limit] to 20%," he explains. "It will eliminate the need for all kinds of products that have tried to circumvent the foreign property rules that ultimately have an additional cost to retail investors — that includes not just clone funds, but some structured products and some of the notes that are out there, all of which use derivative instruments that obviously have a cost to them."
As welcome as the change is, Golombek counsels advisors and their clients to sit tight until the fund companies figure out their response to the change. "There's a huge administrative issue to deal with. Will fund companies immediately shut down the clone funds? Will they automatically transition investors from the clone funds to the underlying foreign funds? Will they need unitholder approval? These are all issues that have to be looked at."
A collateral effect of the elimination of the foreign property rule, the budget acknowledges, will be to change the treatment of limited partnerships. In the 2004 budget, the government tried to cap institutional investment in business income trusts, out of concern that, because pension plans were tax-exempt, there was a potentially significant revenue loss. Limited partnerships pose the same issue; like income trusts, they "flow out" their taxable income to the partners. The government says it will release a consultation paper on the tax issues business income trusts and flow-through entities in general raise.
In a fillip to believers in "hard assets," the budget also renders bullion and silver coins and bars as qualified investments for registered plans, providing the gold is of 99.5% purity and the silver 99.9% purity. Coins that are legal tender will qualify if they are produced by the Royal Canadian Mint and substantially all their fair market value derives from their precious metal content. Gold bars will have to be produced by gold refiners accredited by London Bullion Market Association. Certificates must be issued by a federally or provincially regulated financial institution and represent a claim on the precious metals holdings of the institutions.
"Good for them for introducing it," says Cestnick. "It's just one more asset class that Canadians can hold in their RSP. That's a positive change."
On the corporate side, Ottawa has moved to eliminate the corporate surtax and reduce the general corporate income tax rate by two percentage points, to 19%, by 2010.
Filed by Scot Blythe, Advisor.ca, email@example.com.
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