Q&A: Tax-efficient investments

Question: I make between $60,000 and $65,000. What type of investment would give me the highest after-tax return? – Darryl

Gordon’s answer: You don’t tell us where you live (it makes a difference in terms of tax rates) so let’s use Ontario as an example. Your 2004 marginal tax rate on regular income is 32.98 per cent. If you invest in interest-bearing securities, such as bonds, that is the rate you would pay so clearly this is not the way to go.

Dividends fare much better. The 2004 tax rate in your income bracket is 16.86 per cent, about half the rate payable on interest income. That’s because of the application of the dividend tax credit but remember it only applies to dividends paid by Canadian companies. U.S. dividends don’t qualify. Capital gains get a slightly better break, with a 16.49 per cent rate.

If you’re looking for the greatest tax-efficiency, search out income trusts that pay a high percentage of their distributions as “return of capital”. These payments are tax-deferred — you are not assessed any tax until you sell the units. At that point, a rather complex formula called the “adjusted cost base” comes into play so be sure younderstand how it works. Energy trusts and real estate investment trusts (REITs) are the best choices in this regard.

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