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Finding the right vehicle for U.S. investing

Invest in the USA with your TFSA?

U.S. dividend stocks offer some interesting possibilities for income-seeking investors, and now's an opportune time to buy them because the Canadian dollar is at parity with the U.S. buck. But what's the right investing vehicle for the likes of AT&T, Merck, Johnson & Johnson, Intel and McDonald's, all of which yield more than 3.3 per cent?

Tax-free savings accounts are fine for U.S. dividends in the short term, and long-term investors will find they work quite well to minimize taxes. Registered retirement savings plans look good for U.S. dividends in the short term, but they may be less attractive over the long term from a tax point of view. And then there's the non-registered account, with its own pluses and minuses.

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This edition of Portfolio Strategy aims to provide some ideas for dividend investors on how to handle U.S. and international stocks. Let's call it the Where to Put What Guide for Dividend Investing Outside Canada.

We'll start with U.S. dividend stocks or dividend-focused exchange-traded funds that you plan to hold for the long term in order to generate investment income. The first thing you need to know is that you'll have to do without the dividend tax credit that makes dividends from Canadian companies so attractive when received in taxable accounts.

Imagine you're a senior with an annual income of $40,000. Your marginal tax rate on eligible dividends (these are paid by most publicly traded corporations) would range from zero to 11.7 per cent, depending on the province where you live. U.S. dividends are treated like regular income, which means the marginal tax rate for this same individual would range from about 23 per cent to about 32.5 per cent.

TFSAs sound like an obvious solution here. You can invest up to $5,000 a year in a TFSA and pay zero in taxes on any type of investment gain. TFSAs are not perfect for U.S. dividend stocks, however.

The reason is that the U.S. Internal Revenue Service will apply a withholding tax to your dividend payments that can't be recovered. TD Waterhouse advises that the withholding tax rate for a TFSA is 30 per cent, but you can have it reduced to 15 per cent by filling out a W-8BEN form. Your investment dealer should be able to provide you with one of these forms.

Now for RRSPs and registered retirement income funds, which are second-best places to put Canadian dividend stocks because you lose out on the dividend tax credit. Put U.S. dividends in a registered account and the dividend tax credit is a non-issue. Also, you're shielded from the withholding tax when your U.S. dividends flow into a registered retirement account.

"There's a specific exception under the Canada-U.S. tax treaty that says there's no withholding tax in [registered retirement]accounts," said Jamie Golombek, managing director of tax and estate planning at CIBC Private Wealth Management. "So the full amount of the dividend comes into the RRSP or RRIF and can compound there on a tax deferred basis."

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One alternative is to hold those U.S. dividend stocks in a non-registered account, where you can claim a credit for the 15-per-cent withholding tax when filling out your annual income tax return.

Mr. Golombek said the amount of withholding tax you paid will be listed in a T-slip sent by your investment firm or adviser. In filing your tax return, include a T2209 foreign tax credit form (found online at

The long-term view on the right vehicle for your U.S. dividend stocks is a little more complicated. It all comes down to taxes. In a TFSA, you'll pay the 15-per-cent withholding tax on your dividends and then the taxman is off your back permanently. In a registered retirement account, you avoid the withholding tax but expose yourself to income tax on the dividends when you withdraw them as retirement income.

Let's say $100 worth of dividends are paid by U.S. stocks held in your TFSA and you reinvest the net $85 amount (remember the withholding tax) in such a way that it compounds at 5 per cent annually for 20 years. You'll end up with $225, which compares to $172 if you received $100 in a registered account (no withholding tax), let it compound for 20 years at 5 per cent annually and then paid tax on it at a rate of 35 per cent in retirement.

The registered account would be more attractive if you were in a lower tax bracket in retirement. It's also worth noting that, unlike with TFSAs, you get a tax refund when making RRSP contributions. If you reinvest this money back into your plan, you have a very competitive investing alternative to the TFSA.

The TFSA regains its appeal if you're buying U.S. stocks for capital gains and regard dividends as incidental. "Capital gains are most tax advantageous in a TFSA because they're completely tax free," Mr. Golombek said.

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His pick as a second-best choice: The non-registered account, where you pay tax only on 50 per cent of your capital gains. A less appealing option for capital gains-focused investing: registered retirement accounts.

Mr. Golombek's reasoning applies not only to U.S. stocks, but to any stocks or ETFs you're investing in for capital gains. In a registered account, the full amount of your capital gains will be taxed at your usual rate when you withdraw the money in retirement. You'll have forgone an opportunity to pay zero in taxes in the TFSA, or to pay taxes on only half your gains in the non-registered account.

Global stocks are available to Canadian investors directly through many investment dealers, and some can be bought as American depositary receipts listed on the big U.S. exchanges. ADRs are shares of foreign companies that trade in U.S. dollars. They're considered foreign stocks for Canadian investors and thus can be subject to withholding taxes of 15 to 30 per cent in accounts of all types.

You may be willing to live with having your global dividends clipped by withholding taxes in a TFSA. But in a registered retirement plan, you'll have both withholding taxes and income taxes when you make a withdrawal. The non-registered account is halfway between the two - you'll pay tax on them at your regular rate, but, as with U.S. investments, you can claim credit for the withholding tax.

A Tax Guide to Dividend Investing

Jamie Golombek of CIBC Private Wealth Management has prepared this table showing how much you're left with on an ultimate after-tax basis when you receive $100 in dividends in various types of accounts:


RRSP/RRIF (note 1)


Canadian dividends (note 2)




US dividends (note 3)




Foreign (non-U.S.) stock / ADR* dividend (note 4)




*American Depositary Receipt


- Ontario 2011 top tax bracket taxpayer/marginal tax rate of 46.41% - Funds in RRSP/RRIF/TFSA immediately withdrawn Note 1 - Ignores deduction previously granted for RRSP contribution

Note 2 - dividend tax credit applies, assumes eligible dividends

Note 3 - assumes 15% non-resident withholding tax is eligible for foreign tax credit in non-registered accounts

Note 4 - assumes tax treaty between Canada and foreign jurisdiction reduces rate to 15%, no exemption for retirement plans

Source: Jamie Golombek, CIBC Private Wealth Management

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About the Author
Personal Finance Columnist

Rob Carrick has been writing about personal finance, business and economics for close to 20 years. He joined The Globe and Mail in late 1996 as an investment reporter and has been personal finance columnist since November 1998. Rob's personal finance columns appear in The Globe on Tuesday and Thursday, and his Portfolio Strategy column for investors appears on Saturday. More

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