Tax time comes yearly like clockwork, whether you’re ready for it or not. Tax filing season may not be anyone’s favourite time of year, but it doesn’t always have to be painful.
Smart investors understand that while they may not have complete control over their investment performance, they do have significant control over the taxes they pay on those investments. Income from investments can be earned in three primary ways: through interest, as dividend income, or as capital gains.
In the investment world, interest is typically earned on safer and more secure investments, while dividend income is earned on the stock market, and capital gains come from investments like bonds, mutual funds, or hard assets like real estate. Experts always recommend a mix of different types of investments, balancing secure investments with more volatile but higher-yielding choices.
One secure investment type can provide you with a guaranteed amount of income while also allowing you to save or defer the tax you must pay. Guaranteed Income Certificates, or GICs, pay a predetermined rate of return and are guaranteed to protect your principal investment. While it doesn’t get much safer than a GIC, it also is not going to the highest-yielding holdings in your portfolio. They have another great feature: they can help you lower your tax bill.
Using GICs to save on Taxes
You can choose to hold your GICs in a registered account or a non-registered account. For registered account options, you can hold your GICs in either a Tax-Free Savings Account (TFSA), a Registered Retirement Savings Plan (RRSP) or a Registered Income Fund (RIF). All three options mean you don’t pay tax on the money invested when you purchase your investment. This allows you to defer or even avoid the amount of tax you pay in the year you invest.
For RRSPs and RIFs, you only have to pay tax when you withdraw from your investment. There are limits to how much Canadians can place in RRSPs each year, but any growth in your investment during the term of the RRSP is also tax-sheltered until you withdraw your funds. If you keep an RRSP until you turn 71, you can convert it to an RIF and only pay taxes when you withdraw. This will hopefully be when you’re in a lower tax bracket and will have to pay less tax.
The funds secured in a TFSA are also non-taxable, as is any interest earned on your investment. There is, however, a contribution limit of $6,000 per year with TFSAs, so while they encourage you to save money each year tax-free, there is a limit to the amount of tax you can avoid.
In summary, GICs can be a valuable tool for investors, helping them to defer or avoid the amount of income tax paid when they are held in registered accounts. This makes GICs incredibly useful, especially as you build your career and increase your income. So, why not keep more of your hard-earned cash by investing in a high-interest GIC this year?
