Tax implication when 100% dividend payout is actually ROC | Income tax filing | Discussion forum

savemoresaveoften said
Not sure if I am thinking through properly under this scenario:
A div stock pays eligible div but its 100% (I just picked 100% for simplicity) classified as ROC. Also assume the stock has no growth whatsoever so the stock price will just go down by the amount of the dividend pay out each year (since its 100% ROC)

Since its a dividend nonetheless, one pays tax on it every year (of course there is the dividend tax credit).
You have a ROC adjustment each year, but since the stock price goes down by same amount, there is no capital gain when you sell it at the end.
So net net, one is losing out cuz one is paying tax on money that earns zero income after all.

Am I missing something ? I am starting to pay attention and avoid stocks (esp REIT) that pays high dividend but a good % is actually ROC.

Or the ROC portion is actually NOT count as taxable dividend ?  

The return on capital portion does not count towards the portion which is eligible for a dividend tax credit.

I wouldn't say you should avoid all stocks or REITs which pay any ROC distributions. Some of it is merely an accounting thing. What you should focus on is the sustainability of the REIT's or corporations distributions, their revenue, their balance sheet, and all of those other metrics. But if they're paying a large portion of their distributions as ROC, that's almost always not a good sign, and you would be wise to avoid those.

The exception to the above would be flow-through investment vehicles, such as mortgage investment corporations, which pay nearly all or all of their cash flows to holders of shares. Such payments are treated as interest income. They do carry inherently higher risk than buying shares in, say, blue chip TSX 60 companies, but they're still a bit different.

In short, do do your research and don't try and substitute research for broad, all encompassing statements.

Hope that helps.

Cheers,
Doug

A previous discussion explored what return of capital, for tax purposes, is.

Distributions classified as return of capital are not always the return of the original investment principal.

savemoresaveoften said

So the ROC portion is not taxable annually and its only tax at the end when one dispose the stock (one time capital gain/loss since it reduces the ACB) ?  

Yes until such time your ACB becomes zero by holding it forever, and then it is taxed as a capital gain thereafter.

To Norman's point, ROC can be an accounting item such as DD&A (depreciation of buildings in REITs for example). These are non-cash items while the overall property continues to increase in market value and REIT unit prices continue to climb.

It is 'bad' ROC when one's actual capital is handed back to them and that often happens in high yield funds where there is insufficient income generated to fund the distribution. Beware ROC in high yield funds.

Think of a rental property one has. One takes non-cash CCA (depreciation) each year on a building which is a return of capital for a number of years. Then when the property is sold for a higher price, there is then capital gains. That is why on a T3 tax slip for REITs there is often both Return of Capital (Box 42) and also Capital Gains (Box 21) due to a REIT selling a property.

Take a look at https://en.wikipedia.org/wiki/Return_of_capital