Beyond the TFSA and RRSP: Non-Registered Investment Accounts in Canada

Most Canadians know about the main investment options in their financial institutions, such as tax-free savings accounts (TFSAs) and registered retirement savings plans (RRSPs), but fewer understand the role and tax implications of non-registered investment accounts. These accounts can be valuable additions to your financial portfolio, especially after you’ve maximized contributions to your registered options.

What Are Non-Registered Investment Accounts?

Non-registered accounts are investments that are not registered with the Canadian government, and thus not eligible for tax benefits. Unlike TFSAs and RRSPs, these accounts don’t offer upfront tax deductions or tax-sheltered growth. However, they provide flexibility and opportunities that make them worth considering. Leading financial institutions, like the Innovation Federal Credit Union, typically offer both types of investment and can guide you through choosing the best option.

Key Features of Non-Registered Accounts

No Contribution Limits

Many go for non-registered accounts because they don’t have contribution limits. After you’ve reached your TFSA and RRSP contribution limits, you can put unlimited amounts into a non-registered account.

No Withdrawal Restrictions

Non-registered accounts allow you to withdraw money whenever you want without penalties or restrictions.

This makes them ideal for medium-term goals or creating an accessible portion of your investment portfolio.

Various Investment Options

Similar to registered accounts, non-registered accounts can hold various investments, including:

• Stocks
• Bonds
• Exchange-traded funds (ETFs)
• Mutual funds
• Guaranteed investment certificates (GICs).

Tax Implications of Non-Registered Accounts

The tax treatment of non-registered investments differs significantly from registered ones, and understanding these differences is crucial for effective tax planning.

Interest Income

Interest earned from investments like GICs, bonds, or high-interest savings is fully taxable at your marginal tax rate. Financial institutions will issue a T5 slip reporting this income, which you must include on your tax return.

Dividend Income

Canadian dividends receive preferential tax treatment through the dividend tax credit, which makes them more tax-efficient than interest income. Dividends from foreign companies don’t qualify for this credit and are taxed as regular income.

Capital Gains

When you sell an investment for more than you paid, you create a capital gain. In Canada, only 50% of capital gains are taxable. This makes capital gains one of the most tax-efficient forms of investment income.

Capital Losses

If you sell an investment for less than you paid, you create a capital loss. These losses can offset capital gains, reducing your tax bill. Capital losses can be:

• Applied against capital gains in the current year
• Carried back to offset gains in the three previous tax years
• Carried forward indefinitely to offset future capital gains.

This flexibility makes capital losses a valuable tax planning tool.

Adjusted Cost Base (ACB)

To accurately calculate capital gains or losses, you should maintain a record of your modified cost base. The initial cost of your investment, plus any associated costs (such as fees), is represented by the ACB.

When you buy additional shares of the same investment at different prices, you must recalculate your ACB. This becomes your new cost basis for calculating future capital gains or losses.

Superficial Loss Rules

Be aware of the “superficial loss” rules. If you sell an investment at a loss and you (or a person affiliated with you, such as a spouse) buy the same or identical investment within 30 days before or after the sale, the Canada Revenue Agency (CRA) won’t allow you to claim the capital loss immediately.

Tax-Efficient Investing Strategies for Non-Registered Accounts

Strategic Asset Location

Place investments with different tax treatments in the appropriate accounts:

• Hold interest-generating investments in registered accounts when possible.
• Consider keeping Canadian dividend-paying stocks in non-registered accounts to take advantage of the dividend tax credit.
• Growth-oriented investments that generate capital gains can work well in non-registered accounts due to the 50% inclusion rate.

Tax-Loss Harvesting

Strategically selling investments with paper losses to offset realized capital gains can reduce your overall tax bill. This technique, known as tax-loss harvesting, works particularly well in non-registered accounts.

Return of Capital (ROC)

Some investments, like certain ETFs and mutual funds, may distribute the return of capital. ROC isn’t taxable when received but reduces your ACB, potentially creating larger capital gains when you eventually sell.

Corporate Class Mutual Funds

These funds can convert highly taxed income into more tax-efficient capital gains and delay taxation until you sell your investment. While less advantageous since tax changes in 2016, they still offer some benefits in non-registered accounts.

When Non-Registered Accounts Make Sense

Consider using non-registered accounts in the following situations:

• You’ve maximized TFSA and RRSP contributions.
• You need access to your money before retirement.
• You want to generate tax-efficient income through Canadian dividends or capital gains.
• You’re investing for medium-term goals (5-10 years).
• You want to take advantage of the capital loss provisions.

Final Thoughts

You can use non-registered investment accounts to develop a comprehensive investment strategy. While they lack the tax advantages of TFSAs and RRSPs, they offer unlimited contribution room and considerable flexibility. With proper tax planning and strategic investment choices, you can minimize the tax impact and maximize your returns.