Tips on taking shelter from the taxman
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Updated: October 19, 2009 10:18 AM
Individuals in higher tax brackets often consider using tax shelters to reduce their tax burden. But not all tax shelters are created equal.
A tax shelter is an investment that provides significant deductions against an investor’s income. With these deductions, an investor reduces their total taxable income, and the amount of tax they pay to the Canada Customs and Revenue Agency.
While the types of tax shelters available have declined in recent years, there are still several available. Investments in the resource sector, such as mining or oil and gas companies, can provide a tax shelter. Other qualified investments can include certain film ventures.
It is important to recognize that a tax shelter is not a tax exemption, but a tax deferral. There may be a large tax bill when the investment is sold because any deduction taken reduces the cost base of the investment. As well, any income generated by the investment may be taxable.
The tax deduction received from a tax shelter is, of course, its main selling point. But it’s also important to consider the quality of the investment, and not just the potential write-off. Factors to be considered include the risk involved with the venture (you could lose money) and whether or not the investment will provide cash flow.
Another factor to consider is the structure of the tax shelter. Most shelters are constructed either as a limited partnership or a flow-through share. In a limited partnership, only the amount invested is at risk, in the event of a liability arising. However, this also limits the amount of deductions available to the "at-risk" amount. With a flow-through share, an investor can claim certain expenses incurred by resource companies. These expenses "flow through" the company to the investor and are deductible by them.
Possible drawbacks
It can be difficult to sell certain tax-sheltered investments once the tax deduction has been taken, so investors should view these tax shelters as long-term investments. Another possible drawback is that an investor may be subject to Alternative Minimum Tax. This tax is targeted at people with higher incomes who have significant write-offs from tax shelters. The calculations for this tax are usually complicated, and your tax advisor should be consulted.
This article is not intended as nor does it constitute tax or legal advice. Readers should consult their own lawyer, accountant or other professional advisor when planning to implement a strategy.
This article was supplied by Colin MacAskill CFP CIM, a vice-president and an investment advisor with RBC Dominion Securities Inc., the wealth management arm of the Royal Bank. Member, CIPF. Colin welcomes your calls on his direct line 604-257-7455.
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