2018 was one of very few time periods in investing when investors experienced a one/two hit. You likely received a year-end investment statement reflecting that you experienced some negative returns in your investments over the past year. If you have a non-registered investment account, you may also get a tax slip with a large capital gain showing, which means you may owe more taxes. So why, if your investments lost money over the year, are you having to claim and pay tax on capital gains?
First, let me explain how capital gains and losses within a mutual fund work. The managers of your investment funds are constantly re-evaluating the companies’ stocks and bonds they own in their funds. They are buying and selling company securities on an ongoing basis to try and make money for us the shareholders. Good managers are right more than they are wrong, however sometimes they do get it wrong and they decide to sell a security after it has lost money. This triggers a capital loss. Losses aren’t completely terrible however, because they can be collected and used to offset the capital gains they make on their winning stock picks.
In 2008/2009 when we had that large market decline many of the fund managers sold a lot of securities at a loss. So they had a stockpile of capital losses that they have been using over the intervening years. Markets have been going mostly up since that time, so that even though our investments have been making good profits, we have had very little in the way of capital gains distributions to pay tax on.
2018 was the year that saw the managers selling a lot of the securities they have made a lot of money on. They could see that the values of the stocks were at all time highs, and to reduce the risk for us the shareholders, they took a lot of profits earlier in 2018. And 2018 was the year that they ran out of capital losses they could use to offset those gains. The result – we now have to pay some tax on all the money we’ve made over the past ten years.
Remember that market downturns are always shorter than the market upturns. In fact, most portfolios are back up to their pre-market decline levels experienced in December. Patience is key.
Note: Capital gains are only reportable in taxable investment accounts. RRSPs, RRIFs, TFSAs and other tax deferred accounts do not have to claim these capital gains.
OK info