Compounding Outside TFSA/RRSP
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Thread: Compounding Outside TFSA/RRSP

  1. #1
    Senior Member tygrus's Avatar
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    Compounding Outside TFSA/RRSP

    If you are compounding outside a TFSA/RRSP (assume its full), can you make decent gains against tax, or does it really drag the returns? I believe the highest tax bracket on dividends is 25% or something.

    I have been knocking around this super-compounding strategy. I would buy a basket of ETFs then use the margin to buy a little higher yielding stuff, REITs and covered calls. Every month once the dividend comes in, buy more stock and move the margin up a safe amount. Rinse and repeat.

    Last edited by tygrus; 2017-04-21 at 10:16 AM.

  2. #2
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    If you mean by compounding, rolling the income paid (RoC, eligible dividends, income or whatever) into more units/shares ... the full $$ will go into units where the yearly tax bite will be off of your return.

    Capital gains, dividends, RoC (i.e. usually future but sometimes current CG) are taxed the least as it stands, so that part is good. Rolling the income into more unit/shares means the tax bill stays relatively constant with a preferred tax bill when sold.

    Not sure how the covered calls work tax wise.


    The challenge is whether the units/shares are trading at a profit when withdrawals happen (i.e. was the automatic buy a good price or bad price).


    Cheers

  3. #3
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    Quote Originally Posted by tygrus View Post
    If you are compounding outside a TFSA/RRSP (assume its full), can you make decent gains against tax, or does it really drag the returns? I believe the highest tax bracket on dividends is 25% or something.

    I have been knocking around this super-compounding strategy. I would buy a basket of ETFs then use the margin to buy a little higher yielding stuff, REITs and covered calls. Every month once the dividend comes in, buy more stock and move the margin up a safe amount. Rinse and repeat.
    you have to be in the $143,000 income range to pay 25% on dividends. If ones income is less than about 78,000 you pay about 4.5 % on dividends. Less than 45,000 income you pay no tax on the dividends. go to an online tax calculator and just plug in elegible dividend income to see what the tax rates are after dividend tax credit is applied.

    to me this "compounding" idea with dividend stocks is a fine one. It is not better than a tfsa, but in my opinion it is better than a RRSP. A growing dividend stock in a non-registered account grows tax free as long as you hold it - same as in a RRSP. But when you sell part or all, it is taxed at 1/2 your marginal tax rate, where as RRSP withdrawal is taxed fully. Too, you lose the dividend tax credit inside a RRSP - that is taxed fully as well upon withdrawal.

    To me it is better to have it ouside the RRSP so dividends are taxed at a lower rate and can be used to buy more stock which eventually will be taxed at 1/2 the rate of RRSP withdrawal.
    It is said that investments grow in a tax free environment in a RRSP. But so does a stock outside the RRSP. So what good is an RRSP?
    We can not know things as they are in themselves, but only as they appear to us.

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  5. #4
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    Quote Originally Posted by Pluto View Post
    you have to be in the $143,000 income range to pay 25% on dividends. If ones income is less than about 78,000 you pay about 4.5 % on dividends. Less than 45,000 income you pay no tax on the dividends ...
    Looks generally true for the first and last parts but YMMV for the 4.5% on eligible dividends for $78K of income. Quebec, as an example is at 17.49%.

    Unless the $78K is solely the dividend income paid to one with no other sources of income.


    Quote Originally Posted by Pluto View Post
    ... to me this "compounding" idea with dividend stocks is a fine one. It is not better than a tfsa, but in my opinion it is better than a RRSP. A growing dividend stock in a non-registered account grows tax free as long as you hold it ...
    YMMV ... rolling more income paid into more units/shares may also drive up the yearly taxable income.


    Quote Originally Posted by Pluto View Post
    ... To me it is better to have it ouside the RRSP so dividends are taxed at a lower rate and can be used to buy more stock which eventually will be taxed at 1/2 the rate of RRSP withdrawal ... So what good is an RRSP?
    In the OP's case, it is of no use - just like the TFSA as they are said to be maxed out. I'm not sure why you want to introduce a tangent.

    For those who unlike the OP have not maxed out their registered accounts - YMMV.

    For some I know, the RRSP = a 40+% refund to put into a TFSA, it also means skipping 25% tax on dividends each year. Down the road, the withdrawals are estimated to be at 0% or 20% tax rate.


    Quote Originally Posted by Pluto View Post
    ... It is said that investments grow in a tax free environment in a RRSP. But so does a stock outside the RRSP.
    One difference is that in the taxable environment, less is available to invest. For the person above, it would be something like $0.50+ versus $1, during the growth period.
    As the OP is talking about income paying investments - there's also that $1 paid in income can be re-invested versus the same $1 reinvested but a yearly tax bill.

    Taxes are due for withdrawal or selling in a taxable account but YMMV as to what works better.


    Cheers

  6. #5
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    IMO, the best thing about holding dividend paying stock outside a registered account is the DRIP. These DRIPs are had at a discount, typically 3~5%, so you make more than you would in the registered account. As well as the small bonus, you get full compounding because the company will issue fractional shares.

    The down side to the DRIP is the overhead of having to register your shares.

  7. #6
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    True Tom, but some brokerages also honour the DRIP discount regardless of where you hold the stock (i.e., taxable or TFSA or RRSP).

    To me the good benefits of holding CDN dividend paying stocks outside TFSA and RRSP are 1) DTC and 2) capital gains are a low form of taxation anyhow.

    Hidden Content - Working on a $1 million portfolio and $30k per year from it.

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