I hadn’t been aware of the following wrinkle, brought to my attention by the 2023 Federal Budget : Tax Measures : Supplementary Information:
The Income Tax Act permits corporations to claim a deduction in respect of dividends received on shares of other corporations resident in Canada. These dividends are effectively excluded from income. The dividend received deduction is intended to limit the imposition of multiple levels of corporate taxation.
The mark-to-market rules in the Income Tax Act recognize the unique nature of certain property (“mark-to-market property”) held by financial institutions in the ordinary course of their business. Under these rules, gains on the disposition of mark-to-market property are included in ordinary income, not capital gains, and unrealized gains are included in computing income annually (in addition to when the property is disposed of). Shares are generally mark-to-market property when a financial institution has less than ten per cent of the votes or value of the corporation that issued the shares (“portfolio shares”).
The policy behind the dividend received deduction conflicts with the policy behind the mark-to-market rules. Although the mark-to-market rules essentially classify gains on portfolio shares as business income, dividends received on those shares remain eligible for the dividend received deduction and are excluded from income. The tax treatment of dividends received by financial institutions on portfolio shares held in the ordinary course of their business is inconsistent with the tax treatment of gains on those shares under the mark-to-market rules.
To align the treatment of dividends and gains on portfolio shares under the mark-to-market rules, Budget 2023 proposes to deny the dividend received deduction in respect of dividends received by financial institutions on shares that are mark-to-market property.
This measure would apply to dividends received after 2023.
It seems that Dividend Capture has been very profitable for trading desks! The revenue impact of this change is estimated at about $800-million per year. I have updated my post Research: Dividend Capture.
Update, 2023-5-18 I have clarified on FWF that:
I mean basically the same thing as you do by dividend capture, although I do not insist that the sale be executed on the very next day. When I read of the tax change though, it was this type of trading that occurred to me as being much more profitable than I had previously thought, since the dealers have been making untaxed revenue on the dividends but (I presume – I’m not a tax guy) still being able to claim the (hopefully lower) capital loss. Nice business!
The $800-million figure refers to the incremental tax income for the entirety of dividends affected (including portfolio shares held by insurers), not just those resulting from the Dividend Capture strategy and the source is the federal budget
all part of the dividend tax arb crackdown and very long overdue
https://financialpost.com/news/fp-street/six-billion-dollars-and-counting-major-tax-battle-between-the-cra-and-canadas-big-banks-shows-no-signs-of-abating
one further thought…
strikes me that the goal of this change is to stop div arb in its tracks before it even begins as challenging the banks in the courts is time consuming, unpredictable and wasteful
however, there clearly will be unintended victims as a result of the repeated taxation of the same corp dividend
a few banks dominate the div arb trade as likely supported by the CRAs case
may well be that some innocent insurance co’s find themselves with a larger tax bill as a result of a few bad eggs at some banks
James:
Although I have no expertise in this subsector, I presume that this change will have a major impact on the so-called Institutional Preferred Shares which we have seen quite a bit of money flowing into over the last couple of years … often displacing the conventional preferred shares that we lowly retail investors deal in. Comment?
Cheers!
the french have a different approach to same issue:
https://www.nytimes.com/2023/03/28/business/france-bank-raid-tax-fraud.html#:~:text=The%20banks%20under%20investigation%20in,payment%20of%20French%20dividend%20taxes.