You don’t want to think about taxes just when you have to do your taxes. Once he tax season is upon us, you usually have little options to optimize your taxes. It’s just about doing your taxes on time at that point.
While regular income tax from a pay is pretty simple to do, you need to do a more work for investments. It’s one thing to follow the steps from a tax software such as Turbo Tax, it’s another to have all your documents in order.
For example, if you earn less than $50 in dividends from a company, the company doesn’t have to send you a T5 form but you are still responsible to declare the income.
While Turbo Tax, and other software, make it easy to follow the steps in entering numbers, you still have quite a bit of preparation to go through before you can actually enter the numbers.
I find that I sometimes have to do 3 passes on doing my income tax and I am pretty organize with my tax receipts.
Unfortunately, not everything is included in receipts. Non-registered investments probably require the most work along with my company stocks for ESPP (Employee Stock Purchase Plan).
I am going to share some preparation steps for investors. There are many more steps for others such as business owners or self-employed but I want to focus on the investing part.
Income Tax Planning
Let’s be clear that we sometimes focus on the RRSP deadline but your income tax deadline is actually April 30.
If you owe money, you want to wait :) In order to know if you owe money, you need to do your taxes and you don’t want to wait until the last minute either as you may be scrambling for documents.
Step 1 – Gather all your forms
You will probably receive your T4 sometime in February. The date limit is March 1 otherwise your company can be penalized. Along the way during the first few months, you will be receiving your T5 forms and RRSP contributions.
If you made a contribution late in February, chances are you won’t receive your statement until sometime in March.
TIP: All my documents are digitized and go into a folder that is backed up.
Step 2 – Capital Gains & Losses
Figure out your capital gain or loss for each of your stock, ETF and mutual funds you sold in year. Make a spreadsheet and itemize all the trades.
For anyone that receives ESPP from your employer, you need to take those into account and use the proper purchase price for the capital gain (ie not the discounted price). You would not believe how many employees over pay in taxes when it comes to ESPP.
Often time, the employee gets a discount on the share price but that discount is taxed at the employee’s marginal tax rate and taken from the pay cheque and reported on the T4. The transaction for capital gains must come from the market price at the time of purchase.
Related: Understanding Income Tax on ESPP
If you sold an investment in December to take a capital loss, you cannot include the loss in your income tax report if you re-purchased the shares within 30 days.
In the eye of the government, it’s as if you were still holding it and never sold. Make sure you plan your capital loss usage in November. That’s 6 months before you actually have to file your income tax report. As you can see, planning ahead can save you some money.
TIP: Make sure you have all the transactions to show the capital gains in the spreadsheet. I have a sheet for each year.
Step 3 – Borrowing To Invest
If you have borrowed money to invest, you want to be able to clearly show the interest amount you have been paying on the loan.
Your last statement from the bank should do the trick as it probably shows a cumulative interest paid to them for the year.
TIP: Make a digital copy of that statement. I am all paperless now.
Step 4 – Currency Profits Have To Be Declared
Income (or loss) from currency exchange needs to be reported. If you made currency exchange, you need to declare that. For example, any Norbert’s Gambit with DLR needs to be tracked.
I use the Bank of Canada to calculate the exchange rate. For each transaction in US currency executed outside a tax free account, I always convert the trading fees and proceeds in Canadian dollars using the exchange rate to properly calculate the currency benefit or loss.
The Bank of Canada tracks the last 10 years of daily exchange rates so it easily covers the 7 years of record you must keep.
Step 5 – Distributions or Return of Capital tracking
You need to have good tracking for non-qualified dividends (see distribution vs dividends) outside of a registered account.
Make sure you understand your investments as a dividend ETF or a mutual fund like BMO Monthly Income Fund do not only pay qualified dividends.
Be Ready For An Auditor
The tips are intended to get your documents organized. It’s fine to have the numbers and enter them in the software, but your income tax report can be reviewed at the request of the government and you have to keep the last 7 years.
If you have everything printed and in an envelop, you are golden. I have moved to paperless and digitize all the documents now. The auditor just needs to go through that, otherwise, you need to prove out everything again.