Tax records of investment sales must be kept

If we had one suggestion for the improvement for the taxation of investment income it would relate to the recording of transactions for investments you sold during the year (this is referred to as a “realized” gain or loss).  T3 and T5 slips report some of the activity from the investments you own, such as interest and dividend income in non-registered accounts (excluding RRSPs, TFSA, RRIF, etc.).

Unfortunately, the tax slips issued do not record capital gains or losses from selling an investment (excluding segregated funds) in a non-registered account.  When you sell an investment it is easy to determine the amount you received, referred to as the “proceeds of disposition”.  What is more complicated is to determine the amount you originally paid for tax purposes, referred to as your “adjusted cost base.”  The adjusted cost base often equals the amount you originally paid for the investment.  The reason the term “adjusted” is used is because every investment is different.  Events or features relating to specific equity investments may result in the adjusted cost base being different than the original value you paid.  This is very much a manual process for calculating the amounts, especially if foreign currencies are involved.

Hopefully you have a financial advisor who prepares a realized gain (loss) report for you each year to give to your accountant.  We are of the opinion that if you are paying a financial advisor to assist you in managing your money, they should be preparing this report for you.  The numbers from this report are recorded on schedule three of your income tax return.

In Canada, taxpayers are required to use “average-cost” for calculating the adjusted cost base of an investment.  As an example, if you bought 200 shares of Royal Bank five years ago for $30/share at Institution A, your cost base is $30.  Last year you bought another 200 shares of Royal Bank at Institution B for $40/share, your cost base for the combined 400 shares you now own is $35 per share.  This means that a realized gain (loss) report prepared by one firm likely does not factor in the shares you own elsewhere.  In other words, if you own the same investment in more than one non-registered account then you should take extra care before filing your tax return.   One of the side benefits of consolidating your investments is the ability to simplify your tax reporting.

We have seen multiple errors with people not entering realized gains and losses correctly.  The biggest error we see, after looking at people’s tax history, is that they have not recorded these transactions at all in the current year or in the past.  In the case of capital gains you may be understating your income tax liability.  In the case of net capital losses you would be failing to report a carry-over amount that may assist you in recovering taxes in previous years or future years.

If you do not have an advisor, or your advisor does not prepare a realized gain (loss) report, then you should develop your own system for tax reporting.  One way to compile a complete list of investments you sold is to review your confirmation sell slips and monthly statements.  Most statements have two parts, the first part listing the current investment holdings, and the second part showing all activity in the account (interest, dividends, buys, sells, etc.) during the period.  Some firms send out an annual trading summary and this provides an excellent way to ensure you have a complete list of transactions during the year.

In the days before computers, many investors purchased an accounting ledger book.  In this book, you could record the initial purchase, reinvestments of dividends, stock splits, return of capital, currency adjustments, spin-offs/reorganizations, additional purchases, and previous partial sells to arrive at an adjusted cost base per unit for tax purposes.  If you owned the same investment in more than one account it was easy to factor this in to a ledger book.

During years like 2008, capital losses may exceed capital gains.  If this occurs then the amount of the excess is referred to as a net capital loss.  This net capital loss may be carried back three years or forward indefinitely to be applied against capital gains.  Capital loss carry-over amounts should assist you in either recovering taxes previously paid or reducing taxes in the future.

Unfortunately the same people who do their own investing often do their own tax returns.  In these same people we see the most errors occurring in the reporting of capital gains (losses) and carrying net capital loss amounts back and forward.  Investors who have transferred between financial firms should take extra care in looking at the adjusted cost base, especially on mutual funds.  Often at times book values are not transferred correctly from the relinquishing institution to the receiving institution.

Canada Revenue Agency may allow people who have prepared tax returns incorrectly to amend their returns within reasonable time parameters.  If you feel you have made an error in reporting these amounts in the past you should contact an accountant to assist you as soon as possible.

If you have an accountant who prepares your tax return you should ensure you communicate with them the trading activity during the year at all financial institutions.  Discount tax preparers may not ask about the sells you did, they may prepare your return based on the information you provide them.  Most full service accountants will have a checklist asking you if you had any sells/dispositions during the year.  If the answer is yes and your financial advisor did not prepare the realized gain (loss) report then they will either ask you to provide the report or they may do the work.  If your accountant is doing this work you should expect to receive a higher bill for the time spent.