Decumulate & Downsize

Most of your investing life you and your adviser (if you have one) are focused on wealth accumulation. But, we tend to forget, eventually the whole idea of this long process of delayed gratification is to actually spend this money! That’s decumulation as opposed to wealth accumulation. This stage may also involve downsizing from larger homes to smaller ones or condos, moving to the country or otherwise simplifying your life and jettisoning possessions that may tie you down.

Small Business: How revised Corporate Passive Income Rules impact your Corporate Tax Planning

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By Steve Lowrie, CFA

Special to the Financial Independence Hub

Proactive Business Owners Can Manage Corporate Investments and Income for Optimal Tax Efficiency

As a small business owner, you no doubt have active interests in your bottom line. That’s why it’s worth knowing about some recent changes to the tax treatments on corporate passive income.

For those currently creating passive income through corporate investments, we’ll describe how this income might impact your small business tax planning, and offer some corporate tax strategies for keeping more of that money in your coffers.

Even if you are not currently generating corporate passive income, some of these same tax strategies remain sound. After all, smart tax strategies and sensible corporate tax planning is perennially popular. At the end of a busy work day, the more of any sort of income you get to keep, the better off you and your small business will be.

The Highlights: What has Changed about Corporate Passive Income and How Does It Impact You?

How have corporate passive income rules recently changed?

Starting in 2019, the CRA adjusted corporate tax rates and broadened the definition of passive income.

How do the changes impact your corporate passive income?

These changes brought good news and bad. Under the broader definitions for passive income, you may exceed the passive income limits to qualify for the coveted small business deduction (SBD). Corporate tax strategies that may have worked for you in the past may no longer be ideal for optimal tax integration. But with the tax rate changes, some applicable corporate tax strategies are even more powerful.

That’s the broad sweep. Now let’s take a closer look.

The Details: Small Business Tax Planning and Passive Corporate Income Changes

Small business owners typically manage two interests in their owner/individual roles. Rather than earning your keep by working for someone else, you create corporate wealth. You then decumulate that wealth by transitioning it from your corporation to yourself and your family. Once the dust settles, the goal is to retain as much wealth as possible by being deliberate and tax-efficient throughout the process. Broadly speaking, there are a couple of ways to take wealth out of your business for personal use:

If you take your annual CCPC income as a salary:

  • Your corporation takes it as a deduction, so no corporate tax is due on the income.
  • Instead, you pay personal tax on the income at your graduated personal tax rate.

If you take your after-tax CCPC income as a dividend:

  • Initially, your annual CCPC income will be subject to corporate tax.
  • That year or in the future, you can distribute the after-tax income as a dividend to yourself.
  • In the year you receive the dividend, you’ll pay personal tax on the distribution at your graduated marginal tax rates.

Which is better?

As you might expect, it all depends, and typically requires you to crunch your particular numbers to see how they compare. By design, how you take the money is supposed to end up being a tax-planning wash … at least as far as the CRA is concerned. However, the ability to tax-defer dividends to future years has often been beneficial as part of overall corporate tax-planning.

What’s changed?

The concern is, business owners in general, and small business owners in particular, may have had an unfair advantage over individual taxpayers. By deferring a salary or dividend payments while building up wealth within your corporation, you also can defer paying annual personal taxes, which are typically at higher rates … especially if you qualified for Small Business Deferral (SBD) rates. Continue Reading…

When was the last time you Rebalanced?

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By John De Goey, CFP, CIM

Special to the Financial Independence Hub

There are several approaches that individual investors and advisors alike might take to portfolio management.  One of those is rebalancing.  In simple terms, rebalancing is simply selling a portion of something that is up and re-positioning the proceeds into something that is down (or perhaps merely up relatively less).  It is a longstanding, tried and true approach to both portfolio management in general and risk management, in particular.

Now that we are in October with a steady stream of portfolio gains booked into most peoples’ accounts, it might be worth your while to consider taking a few profits from those things in your portfolio that have done particularly well of late and using the proceeds to be a value investor who buys things that are currently out of favour.

Trading more reduces both Risk and Return

Some people offer suggestions as to what should be sold and bought.  I won’t, because everyone’s holdings are different.  Some people will offer suggestions as to what the thresholds ought to be.  I won’t, because there is no obvious right answer.  Trading more reduces both risk and return while increasing transaction charges.  Doing so less frequently typically leads to the opposite outcome. Continue Reading…

The Dividend Aristocrats for Retirement

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By Dale Roberts, cutthecrapinvesting

Special to the Financial Independence Hub

The Dividend Aristocrats are U.S. stocks (members of the S&P 500) that have increased their dividends for at least 25 years or more. That index methodology will find incredible quality and it also offers a large cap bias. Large cap (capitalization) means that the companies are at the higher end with respect to what it would take to buy the company outright. It is the number of shares multiplied by the share price. The Aristocrat methodology has outperformed the market, and with lesser volatility. That might make it a solid approach for the U.S. stock component for a retiree, or for one who seeks better risk-adjusted returns. We’re looking at the Dividend Aristocrats for retirement, on The Sunday Reads.

Now certainly, when we bring up the subject of dividend investing, that will split many investors and stock market watchers into two separate camps. Many feel that it is a superior form of investing. At the other end of the entrenched opinion – dividends have absolutely nothing to do with investment success. They will argue that it is a zero sum game, the company is simply giving you money by way of a dividend and that reduces the value of the company by an equal amount.

What do those dividends find?

If we want to think of dividends or dividend investing as a factor, the argument can be that dividends find certain kinds of companies. Of course dividend investing will almost always find profitability (unless they’re faking it). Most dividends seek dividend growth and that can find companies with a longer history of increasing profits and increasing free cash flow. And when you stretch that dividend growth history to 10, 15, 20, 25 or 50 years that can find higher quality companies with incredible track records, sustainable moats and durable business models. While certainly not foolproof, the approach can lessen the chance of failure within a stock or large basket of stocks.

This post from S&P Global, the importance of stable dividend income offers this quote and fact …

Across all of the time horizons measured, the S&P 500 Dividend Aristocrats exhibited higher returns with lower volatility compared with the S&P 500, resulting in higher Sharpe ratios.

Better risk adjusted returns is appealing for many. But it can have even more importance for the retiree, as we have that sequence of returns risk.

Ploutos, Seeking Alpha

On Seeking Alpha, author Ferdis tracks and measures the quality of each Dividend Aristocrat. Here’s the most recent Dividend Aristocrats ranked by quality scores.

Readers will know that for our U.S. stock portfolio the approach has found many U.S. Dividend Aristocrats, so I like to check in on the Ferdis reports to see where our Aristocrats stand on the Ferdis scale. I continue to find that our Aristocrats are in the top echelons of quality. In fact the only stock at the bottom of the scale is our only loser – Walgreens.

The Dividend Achievers skims

From that U.S. portfolio link you’ll see that I skimmed 15 of the largest cap Achievers in early 2015. That index methodology insists on at least 10 years of dividend growth, and the Dividend Achievers (Appreciation) index applies proprietary financial health screens. Our stock performance suggests that the index skimming exercise found enough growth and truly excelled at that quality ‘thing’. Within the original mix of stocks were several Dividend Aristocrats.

I took a look at our U.S. portfolio returns and then offered this comment on the Ferdis post …

From my 2015 start date I beat the Aristocrats Index (ETF NOBL) by about 2.7% annual with much better risk adjusted returns. So ya, quality works. In the COVID correction I had about 35% less draw down. Dale’s Achievers were down by less than 21% in the correction.

Solid returns with lesser volatility and less draw down in major corrections was exactly the rationale for embracing the Achievers and Aristocrats for retirement.

And then when you add in a few solid quality U.S (no brainer) picks with decent growth prospects.

Our total U.S. returns are even more exaggerated as the 3 picks beat the Appreciation fund by 7.5% annual. They are AAPL, BLK and BRK.B (as a defensive stock market correction hedge – that’s an underperformer for the period).

That growth kicker has contributed greatly to the wonderful performance. As always past performance does not guarantee future returns.

Here’s the summary in chart form.

And setting the table for retirement.

Equal weight by stocks or ETF

An additional ‘bonus’ is that you can choose to equal weight the stocks. And that’s exactly what also happens within the Dividend Aristocrat Index. Here’s the current sector mix. The index is equal-weighted, that can contribute to a value tilt as well (finding greater current earnings accompanied by generous growth prospects). Continue Reading…

Why you should (or shouldn’t) defer OAS to Age 70

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I’ve long advocated that anyone who expects to live a long life should consider deferring their Canada Pension Plan to age 70. Doing so can increase your CPP payments by nearly 50% – an income stream that is both inflation-protected and payable for life. If taking CPP at 70 is such a good idea, why not also defer OAS to age 70?

Many people are unaware of the option to defer taking OAS benefits up to age 70. This measure was introduced for those who retired on or after July 1, 2013 – so it is still relatively new. Similar to deferring CPP, the start date for your OAS pension can be deferred up to five years with the pension payable increased by 0.6% for each month that the pension is deferred.

OAS Eligibility

By the way, unlike CPP there is no complicated formula to determine your eligibility and payment amount. That’s because OAS benefits are paid for out of general tax revenues of the Government of Canada. You do not pay into it directly. In fact, you can receive OAS even if you’ve never worked or if you are still working.

Simply put, you may qualify for a full OAS pension if you resided in Canada for at least 40 years after turning 18 (when you turn 65).

To be eligible for any OAS benefits you must:

  • be 65 years old or older
  • be a Canadian citizen or a legal resident at the time your OAS pension application is approved, and
  • have resided in Canada for at least 10 years since the age of 18

You can apply for Old Age Security up to 11 months before you want your OAS pension to start.

Your deferred OAS pension will start on the date you indicate in writing on your Application for the Old Age Security Pension and the Guaranteed Income Supplement.

There is no financial advantage to defer your OAS pension after age 70. In fact, you risk losing benefits. If you’re over the age of 70 and not collecting OAS benefits make sure to apply for OAS right away.

Here are three reasons why you should defer OAS to age 70:

1). Enhanced Benefit – Defer OAS to 70 and get up to 36% more!

The standard age to take your OAS pension is 65. Unlike CPP, there is no option to take OAS early, such as at age 60. But you can defer it up to 60 months (five years) in exchange for an enhanced benefit.

Deferring OAS to age 70 can be a wise decision. You’ll receive 7.2% more each year that you delay taking OAS (up to a maximum of 36% more if you take OAS at age 70). Note that there is no incentive to delay taking OAS after age 70.

Here’s an example. The maximum monthly payment one can receive at age 65 (as of July 2021) is $626.49. Expressed in annual terms, that equals $7,553.88.

Let’s look at the impact of deferring OAS to age 70. Benefits will increase by 0.6% for each month of deferral, so by age 70 we’ll see a total increase of 36%. That brings our annual OAS pension to $10,273 – an increase of $2,719 per year for your lifetime (indexed to inflation).

2). Avoid / Reduce OAS Clawback

In my experience working with clients in my fee-only practice, retirees are loath to give up any of their OAS benefits due to OAS clawbacks. That means designing retirement income and withdrawal strategies specifically to avoid or reduce the OAS clawback.

The Canada Revenue Agency (CRA) calls this OAS clawback an OAS pension recovery tax. If your income exceeds $79,845 (2021) then you are required to pay back some or all of the OAS pension you receive from July 2022 to June 2023. For every dollar of income above the threshold, your OAS pension is reduced by 15 cents. OAS is fully clawed back when income exceeds $129,581 (2021).

So, does deferring OAS help avoid or reduce the OAS clawback? In many cases, yes.

One example I’ve come across many times is when a client works beyond their 65th birthday. In this case, they may want to postpone OAS simply because they’re still working and don’t need the income. In some cases, the additional income received from OAS would be partially or completely clawed back due to a high income. Deferring OAS to at least the next calendar year when you’re in a lower tax bracket makes a lot of sense.

Aaron Hector, financial consultant at Doherty & Bryant, says there is a clear advantage to postponing OAS if someone expects their retirement income to push them into the OAS clawback zone.

“Not only will postponement provide them with an enhanced OAS income, it will also in turn provide them with a higher clawback ceiling,” said Mr. Hector.

It might also allow the opportunity to draw down RRSP/RRIF assets between 65 and 70 which would reduce future expected retirement income (lower RRSP/RRIF assets = lower mandatory withdrawals between age 72 and death).

One could also stash any unspent RRSP/RRIF withdrawals into their TFSA. Growing their TFSA in retirement gives retirees the valuable ability to withdraw money tax-free any time and not have that income affect their means-tested benefits (such as OAS).

3). Take OAS at 70 to protect against Longevity Risk

It’s counterintuitive to defer taking pensions such as CPP and OAS (even with an enhanced benefit for waiting) because it forces retirees to tap into their personal savings – depleting their nest egg earlier and faster than they’d prefer. Indeed, people are reluctant to spend their capital.

Overlooked retirement income and planning considerations

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By Mark Seed, MyOwnAdvisor

Special to the Financial Independence Hub

I’ve updated this retirement income planning post to reflect some current thoughts. Check it out!

I’ve mentioned this a few times on my site: there is a wealth of information about asset accumulation, how to save within your registered and non-registered accounts to plan for retirement. There is far less information about asset decumulation including approaches to earn income in retirement.

Thankfully there are a few great resources available to aspiring retirees and those in retirement – some of those resources I’ve written about before.

Retirement income and planning articles on my site:

One of my favourite books about generating retirement income is one by Daryl Diamond, The Retirement Income Blueprint. 

An article about creating a cash wedge as you open up the investment taps.

A review about The Real Retirement.

These are six big mistakes in retirement to avoid.

A review of how to generate Retirement Income for Life.

This is my bucket approach to earning income in retirement.

Here are 4 simple ways to generate more retirement income.

Can you have too much dividend income? (I doubt it!)

Other resources and drawdown ideas:

Instead of focusing on the 4% rule, you can drawdown your portfolio via Variable Percentage Withdrawal (VPW).

A reminder the 4% rule doesn’t work for everyone. Some people ignore the 4% rule altogether.

Getting older but my planning approach stays the same

As I get older, I’m gravitating more and more this aforementioned “bucket approach” for retirement income purposes. This bucket approach consists of three key buckets in our personal portfolio to address our needs:

  • a bucket of cash savings
  • a bucket of dividend paying stocks
  • a bucket of a few equity Exchange Traded Funds (ETFs).

My Own Advisor Bucket Approach May 2019