Tax loss harvesting sounds like a magical strategy that is only available to the wealthy. But in reality, it’s a simple tax saving concept that involves selling a security or investment that has experienced a loss, and using that ‘capital loss’ to offset a capital gain in the past, present, or future.

Investors should know that tax loss harvesting is only relevant when it comes to investments held in their taxable or non-registered accounts. You can use a capital loss to reduce a taxable capital gain this year, in any of the three preceding years, or in any future year. That’s a powerful tool that savvy investors and investment advisors can take advantage of to reduce tax exposure.

Also, know that a capital loss is not realized until the asset (be it an investment, or a property) is sold for a price that is lower than its original purchase price. 

Tax Loss Harvesting for DIY Investors

DIY investors can create their own strategy for tax loss selling. Let’s say at the beginning of the year you purchased $100,000 worth of VCN – Vanguard’s Canada All Cap Index ETF. Today, VCN is down 12.9 percent. You sell your shares of VCN and realize a loss of $12,900.

But you’re not done yet. After selling VCN you immediately buy a comparable ETF such as iShares Core S&P/TSX Capped Composite (XIC). You’re still fully invested, but you’ve “harvested” a $12,900 capital loss to hopefully offset a capital gain at some point, and now you get your Canadian equity exposure from XIC instead of VCN.

Buying a comparable fund gets around CRA’s ‘superficial loss’ rule, which states that investors can’t repurchase the same property or security for 30 days. A lot can happen in one month, as we’ve seen recently, and so we don’t want our money sitting on the sidelines.

The other concept for investors with taxable accounts to understand is their adjusted cost base (ACB). More than just the original price you paid for an investment, adjusted cost base also factors in any new purchases, plus any reinvested dividends or capital gains distributions, minus any sells or return of capital distributions.

Simply put, it’s a pain for self-directed investors to keep tabs on their adjusted cost base, plus come up with their own approach to tax loss selling that’s timely, profitable, and onside with CRA.

So, what’s an investor to do if he or she wants to take advantage of tax loss harvesting without the pain of managing it on their own?

Tax Loss Harvesting with Wealthsimple

The remainder of this article will look at how the robo advisor Wealthsimple handles tax loss harvesting for its clients. It’s a feature that’s widely promoted as a benefit to investors, but as you’ll see it only makes sense in a few circumstances.

Related: Using a robo-advisor in retirement

I spoke with Michael Tempelmeyer, a senior investment and retirement specialist at Wealthsimple, to better understand how the robo advisor uses tax loss harvesting for its clients.

He says tax loss harvesting is available to clients who qualify for the Wealthsimple Black or Wealthsimple Generation premium service levels by having net deposits of $100,000+ and $500,000+ in their Wealthsimple account, respectively.

Tax loss harvesting can be activated for these clients and applies to personal investment accounts and corporate investment accounts, both of which are taxable account types.

“Our approach to tax loss harvesting is simple. Any time one of the eligible ETF positions in a client account falls 7 percent below the amount that was paid for it, we will sell the position to realize the capital loss for tax purposes,” said Tempelmeyer.

They take the proceeds of this sale and invest the money in another similar, but not identical ETF, so the client maintains their desired market exposure.

For the majority of the individual ETF positions used in Wealthsimple’s 11 standard risk level portfolios there is a backup ETF on standby for this purpose.

However, there are a few ETF positions used in their standard portfolios that don’t have a viable backup position. In these cases, as well as in their Socially Responsible Investment (SRI) portfolios and their Halal portfolios, they are not able to do any tax loss harvest selling.

Tax Loss Selling in Action

Tempelmeyer said that during the recent decline in markets, as a result of the COVID-19 pandemic, there were a number of tax loss sales in client accounts where XEF (BlackRock iShares Core MSCI EAFE IMI Index ETF) was sold.

“We use VIU (Vanguard FTSE Developed All Cap ex North America Index ETF) as a backup position in this case. VIU tracks a different index but has very similar geographic exposure to XEF,” said Tempelmeyer.

There were two particular cases where this decline in the unit price of XEF created a good tax loss harvesting opportunity for two different clients in very different situations.

1) Linda who is a 35-year-old technology company employee has $1.5 million in a personal investment account with us. The account is invested in our risk level 10 portfolio which has 90 percent exposure to stock markets and 10 percent exposure to bond markets. The tax loss sale of XEF realized a total capital loss for her of approximately $30,000.

2) Ray who is a 47-year-old business owner has $2.9 million in a corporate investment account with us. The account is invested in our risk level 6 portfolio which has 65 percent exposure to stock markets and 35 percent exposure to bond markets. His business realized a capital loss of approximately $40,000 as a result of the sale.

What this means is that the next $30,000 of capital gains realized personally for Linda and the next $40,000 of capital gains realized by Ray’s business will be tax-free. If there are no capital gains this year or in the three prior years to be offset, then the capital losses that were realized can be carried forward to be used against capital gains in any future year.

“The benefits of tax loss harvesting make sense for the vast majority of people with taxable accounts and I generally recommend taking advantage of this strategy, but it is always a good idea to talk through the specifics of an individual situation with a financial planner who understands the potential implications,” said Tempelmeyer.

Changing Your Asset Mix

A market downturn can also provide an opportunity for investors to make a shift in how their portfolio is structured at a reduced tax cost.

Many investors can feel trapped in a particular strategy due to the unrealized capital gains that they would be taxed on when selling.

Related: Changing investment strategies after a market crash

While Mr. Tempelmeyer thinks it makes sense to move away from a high cost or inappropriate asset mix portfolio essentially any time, a downturn provides the opportunity to do this more efficiently from a tax cost perspective.

Investors who should review their options include those who hold high cost mutual funds or other costly advised portfolios as well as investors who continue to hold concentrated positions in individual stocks for the sole purpose of avoiding the tax hit associated with selling.

Final Thoughts

Individual investors can use tax loss harvesting or selling to save taxes on past, present, or future capital gains. In fact, the recent market crash due to the coronavirus pandemic likely highlights a terrific opportunity to take advantage of tax loss selling.

But beware.

Managing your own non-registered portfolio and creating your own tax loss selling strategy means diligent and tedious tracking of your adjusted cost base, ensuring your selling and re-purchasing is onside with CRA’s superficial loss rules, avoiding market timing, and identifying the appropriate time to crystallize a loss that best benefits your tax situation. Whew.

This is where a robo-advisor can come in handy. At Wealthsimple, once you’ve turned on the tax loss harvesting feature then it is happening automatically behind the scenes whenever one of a client’s ETF positions falls 7 percent below its original purchase price.

Related: How to transfer your RRSP to Wealthsimple

It can also work for clients with specific tax loss harvesting opportunities, like when they’ve transferred over a non-registered portfolio in-kind from another institution and need to carefully and methodically sell off the portfolio over time. 

Did you know Boomer & Echo readers get a $50 cash bonus when they open up a new Wealthsimple account and fund it with $500 within 45 days? Transfer your account to Wealthsimple and they will cover the transfer fee.

Readers: Are you looking at tax loss harvesting opportunities due to the recent market downturn? How comfortable do you feel managing it on your own versus using a robo advisor?

It’s an interesting time to be shopping for mortgage rates. On the one hand, the Bank of Canada’s emergency rate cuts have slashed its key lending rate to 0.25 percent. The big banks followed suit, dropping their prime lending rates by 1.5 percent. On the other hand, bond yields have dropped to historic lows, which should send fixed mortgage rates down – but that hasn’t been the case.

Here’s what you need to know when renewing your mortgage this year.

Variable rates vs. Fixed rates

A quick explanation of variable versus fixed rate mortgages.

Variable rates are tied to the Bank of Canada’s key interest rate and typically move in lockstep when the central bank raises or lowers its interest rate. That affects the interest rate on a variable rate mortgage, or on a home equity line of credit.

Fixed rate mortgages are influenced more by the bond market – in particular five-year government of Canada bonds.

In both cases the bank borrows money at rates slightly higher than the government rate, and profits from the spread between their borrowing and lending rate.

With that out of the way, how should homeowners facing a mortgage renewal this year tackle their decision? Mortgage renewals typically come down to timing. No one is going to successfully select and carry the lowest possible mortgage rate throughout their entire term.

That’s why I adopt a mortgage renewal approach that looks for the lowest of either the five-year variable rate mortgage, or a 1-2-year fixed rate mortgage.

My thought process is that if a large variable rate discount (prime minus 0.8 percent or better) isn’t available, then I’ll take a short-term fixed rate and hope for better variable terms in another year or two.

This process has served me well over the life of my current mortgage. I started with a five-year variable rate of prime minus 0.8 percent, which gave me a rate of 2.15 percent in 2011. One rate cut took that down to 1.90 percent for some time.

Variable rate discounts had all but dried-up when it came time to renew in 2016. Our bank was offering a measly prime minus 0.10 percent (2.6 percent at the time). So, I opted for a 2-year fixed rate mortgage at 2.19 percent.

Fast forward to 2018 and those sweet variable rate discounts came roaring back. I once again chose a five-year variable mortgage rate – this one at prime minus 1.15 percent. With the recent Bank of Canada cuts my mortgage rate is now an incredibly low 1.45 percent.

How does this help you?

If you’re renewing your mortgage, start with the basic premise that borrowers who choose a variable rate mortgage typically save more money (nine times out of 10) than fixed rate borrowers over the life of their mortgage. Then add the idea that negotiating your rate often is a good thing.

Finally, understand that in some years the variable rate discount is largely non-existent, and so it’s not a bad idea to go with a short-term fixed rate so you have the opportunity to hunt for bargains again in the near future.

Renewing Your Mortgage This Year?

I reached out to Rob McLister, mortgage expert and founder of RateSpy.com, to ask specifically what else homeowners should be looking for when it comes to renewing your mortgage this year.

Rob’s on the ground dealing with mortgage applications and he understands both the interest rate and lending environment we’re facing right now.

Should I shop early and take advantage of rate holds?

Mortgages are taking longer to close in some cases due to COVID-related inefficiencies. Make sure you apply to renew your mortgage at least 35-40 days before renewal.

It typically pays to lock-in a rate sooner than later in case rates shoot up. But, in a recession where the government is adding massive amounts of liquidity to the system, there’s less chance of rate spikes.

There’s a greater probability in the near-term that interest rates just drift sideways or move lower as bond investors price-in falling growth and deflation risk, and as investor demand for mortgages improves in the mortgage funding market.

Should I go with a fixed or variable rate?

Well-qualified borrowers can pick up five-year fixed rates as low as 2.14 percent, and variable rates as low as 1.95 percent.

Uninsured borrowers (applies to purchases of $1M or more, rental properties, or amortizations longer than 25 years) are finding as low as 2.44 percent fixed and 2.25 percent variable.

The upfront edge of a variable rate has faded significantly in the last month or so. To put it another way, you’re now paying a lot less for fixed-rate “insurance.”

Typically that happens when the market expects rates to stay low for a few years or more. But humans, being risk averse creatures, tend to weight risk management more heavily than historical rate patterns. As a result, we could see a shift towards fixed rates until that spread between fixed and variable rates — or long-term and short-term rates — widens out more.

At this point, someone going variable would have to be very comfortable with the potential of a 75-100 basis point rate increase in a few years. In fact, if we get more than one rate hike anytime in the next three years, a 5-year fixed rate mortgage would outperform based on interest costs alone.

But the conversation doesn’t end with interest cost. You’ve also got to factor in prepayment penalties, which can be two to four times worse with some five-year fixed rate mortgages, especially at the top 10 banks. Penalties factor in if you move or refinance and can’t get good rates from your existing lender, or if you sell and don’t re-buy soon after.

My existing rate is extremely low. Should I still consider locking-in a rate now?

Variable-rate discounts have slowly improved after almost disappearing in March. At the time, investors were panicked over a potential surge in credit risk. Today, the government is buying mortgage and fixed-income assets by the billions and risk premiums have subsided. That’s pushed down lending costs and banks are starting to pass the savings back to borrowers.

We’re not out of the woods yet, however. Credit risk and rate premiums could always flare back up, but the probability is now greater that variable rates will improve by September.

If I had decided to go variable, then I’d wait as long as I could to set my rate, and ask a mortgage broker to inform me immediately if rate discounts start to shrink again.

If a five-year fixed were more suitable, I’d keep an eye on bond yields. If Canada’s 5-year government bond yield closed above 0.60 percent then I’d apply immediately to lock-in a rate hold.

What’s the rate and lending environment today, compared to five years ago?

Five years ago (May 2015) the average 5-year fixed rate was 2.64 percent at the major banks. Today it’s exactly the same at 2.64 percent. There is virtually no renewal risk for qualified borrowers closing on a fixed rate mortgage in the next few months.

For variable-rate borrowers, they’re seeing about a 20 basis point reduction in rates versus five years ago.

Unfortunately, not everyone is a well-qualified borrower, especially with COVID impacting people’s employment. For anyone renewing near-term who’s seen income interruption or has other credit challenges, you may be better off just renewing with your existing lender.

But talk with a mortgage broker to make sure there’s not a better option given your circumstances.

Final Thoughts

There’s a lot more that goes into a mortgage decision than simply getting the lowest interest rate. There’s variable rates versus fixed rates, short terms versus long terms, not to mention other mortgage features such as pre-payment and double-up privileges, and pre-payment penalties to consider as well.

Not to mention your own personal financial situation. How stable is your income? Has anything changed since your last term, such as marriage, children, divorce, or a career change that may impact your finances today?

Whether you’re renewing your mortgage with a fixed or variable rate term, know that interest rates are still at historic lows and well under 3 percent. As long as your finances remain in good shape, you can renew your mortgage with confidence without agonizing over 10 or 20 basis points.

I check my credit card statements often and yesterday noticed a charge of $500+ from Amazon.ca that was linked to my wife’s card number (secondary cardholder on this account). This was strange, not only because we didn’t authorize the purchase but also because this particular card was not linked to our Amazon account. 

What we discovered was that someone opened an Amazon account under my wife’s name, with our home address, and added her credit card number to the account. The fraudster ordered a $500+ fitness watch, and, get this, had it shipped to our address (not due to arrive until later this week).

I contacted the credit card company to flag the unauthorized transaction and report the identity fraud. Mastercard offers Zero Liability protection, meaning the company won’t hold you responsible for unauthorized transactions. They also closed down my wife’s account and issued a new card number.

We contacted Amazon to report the unauthorized charge and investigate how this might have happened. The customer service agent was able to trace the card number to an account that was opened earlier in the week under my wife’s name and address, along with the purchase of a fitness watch.

The strangest part about this entire situation is that the item was shipped to our home address (good job, thief). The Amazon rep asked us to refuse the shipment when it arrived, and then it would issue a refund (a moot point, since the charge has already been reversed on my card statement).

In the meantime I asked if they could flag the account as fraudulent and not allow any further activity, to which they agreed.

Given the number of data breaches that have occurred over the past several years it’s no surprise that eventually one of us would fall victim to identity fraud or theft. My wife’s information could have been compromised at one or more of the largest data breaches in the world, including Adobe, Marriott, and My Fitness Pal.

We reported the identity fraud details to the Canadian Anti-Fraud Centre, which collect information on fraud, identity theft, and past and current scams.

Finally, we placed a potential fraud alert on my wife’s credit file online through TransUnion. The other credit reporting bureau, Equifax, which ironically had a data breach of its own that affected 147 million consumers, had no such online mechanism and its offices were closed for the weekend.

It can be scary to have your information compromised, but this type of identity fraud is becoming more and more prevalent today. Be sure to diligently check your credit card statements and report suspicious transactions immediately. 

Both Visa and MasterCard have Zero Liability protection, while American Express offers a similar Fraud Protection guarantee. 

Interac also offers fraud prevention, but a credit card’s protection is much more robust. If your bank card is compromised, the fraudster is taking money directly from your bank account, whereas an unauthorized credit card charge still has a 22+ day grace period before payment is required. 

This Week’s Recap:

As I mentioned in last Monday’s update, I received the lump sum payment of cash from my pension and put $30,000 into my TFSA, and another $3,700 into my RRSP to fully max out both accounts.

We also bought a hot tub(!), which will be delivered and installed in the coming weeks. Yes, we’re living our best stay-at-home life.

This week I wrote about commission-free trading and whether this is leading to bad investor behaviour (yes, and no).

Watch for my article on tax loss harvesting this week, plus a look at renewing your mortgage in this strange rate environment.

Promo of the Week:

I consistently get questions from readers about high interest savings accounts and where to park your money. The first answer is, not with a savings account at a big bank.

And, if you don’t want to bother moving your money around every 3-6 months to chase the latest interest rate promotions, you’re better off finding a bank that can offer a consistently high everyday rate.

That’s where EQ Bank comes in. EQ Bank’s Savings Plus Account consistently offers an everyday high interest rate at or near the top of the market with no hassles (2%). It even comes with some chequing account functionality, like bill payments and free e-Transfers. Open an account here.

Weekend Reading:

Our friends at Credit Card Genius offer 37 money saving tips when times are tough.

One of the bigger revelations at this year’s Berkshire Hathaway annual general meeting was that it sold off its entire stake in the four largest U.S. airlines in April:

“We made that decision in terms of the airline business. We took money out of the business basically even at a substantial loss,” Buffett said. “We will not fund a company that — where we think that it is going to chew up money in the future.”

Many thanks to Erica Alini at Global News for including quotes from me in her latest piece on changing investment strategies amid COVID-19. Here are my own thoughts on the topic of changing investment strategies in a market crash.

I was also pleased to be included in this MoneySense piece by Jonathan Chevreau on whether you should delay retirement due to COVID-19. Again, here are my own thoughts on whether you should postpone retirement due to the pandemic.

Another MoneySense article looks at how the coronavirus pandemic could change the way we think about retirement in Canada.

I enjoyed this video by Millionaire Teacher Andrew Hallam where he explains how difficult it is to pick winning individual stocks:

Michael Batnick explains the catalyst behind the stock market wrapping up its best month in more than 30 years:

“Stocks aren’t rallying because of terrible numbers. They fell in anticipation of them. For the last few weeks they’ve been rising in anticipation of the recovery.”

My Own Advisor Mark Seed teams up with fee-for-service planner Owen Winkelmolen on the following case study: spend more or retire earlier in this bullet-proof retirement plan.

Dale Roberts at Cut the Crap Investing weighs-in on reports that robo-advisors are thriving in this market downturn.

Michael James looks into another emotional reason why people seem to want to take CPP early.

Group RESP customers are typically locked into monthly payments that are difficult to reduce or postpone. FAIR Canada is calling on security regulators to assist group RESP subscribers who may be unable to make their scheduled payments.

Earn Altitude Prestige status without flying? That’s exactly what Aeroplan and Air Canada are offering right now in this must-see promotion for wannabe frequent flyers.

Finally, many Canadians have turned to meal kit delivery services to help cook from home and limit trips to the grocery store. Kyle Prevost at Million Dollar Journey reviews one of these services – Hello Fresh – and looks at the cost of meal kits.

Enjoy the rest of your weekend, everyone!