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American Taxpayers Immigrating to Canada: Maximizing the Roth Conversion Strategy

August 22, 2018 By Cardinal Point Wealth

Starting a new chapter in your life by relocating north of the border can be exciting. However, there are many financial and tax implications to take into consideration before you embark on this path. Whether you are an American citizen, a Green Card holder, or otherwise a U.S. resident taxpayer, you may have built up a significant amount of tax deferred investments via IRAs, 401ks, and other types of employer sponsored plans. Once a Canadian tax resident, distributions from most of the plans will be taxable in Canada. In general, the tax rates in Canada for individuals are higher than those in the U.S., and the highest marginal tax brackets are reached at lower levels of income. As such, it is possible that future withdrawals from these U.S. investment vehicles will result in a significantly higher income tax liability than would have been paid had you remained in the U.S. With proper counsel, there is an opportunity to mitigate this situation with some proactive planning.

With the advent of the Tax Increase Prevention and Reconciliation Act, the shackles of income restrictions on Roth conversions were removed. This presents a tax planning opportunity for many Americans, especially those who are considering a move to Canada.

A Roth conversion allows investments held in Traditional/Rollover IRAs, SEPs, and Simple IRAs to convert to a tax-free Roth IRA. The fair market value of the converted amount would be included as ordinary income for the year in which the conversion takes place. Although markets cannot be timed, in theory, the optimal window to convert is when the values of the stocks within the accounts are down, as less tax would be paid on the conversion. The rationale on this strategy includes: diversification of account types to manage future tax liabilities, paying tax at marginal tax rates today in order to avoid paying tax at potentially higher rates in the future, and blessing loved ones with tax free assets as part of your estate plan.

For the American taxpayer planning to relocate to Canada, this presents a golden opportunity. As part of the 5th protocol to the Convention between Canada and the United States (“the Treaty”), Roth IRAs are considered pensions and as such, both the U.S. and Canadian governments recognize the tax-free status of Roth IRAs. This means that if one were to convert a traditional IRA to a Roth IRA prior to moving to Canada, one would completely avoid further taxation on the account basis and any subsequent growth. For many individuals, this minimizes the combined tax liability for the two countries and maximizes what you are able to pass on to your heirs.

To get more granular, let’s view this strategy within a specific context. Let’s say you were approached by your employer regarding an opportunity to transfer from Houston to Calgary. You ponder the move since you always wanted to experience life with the Rockies at your doorstep. You have a 401k in the U.S. that is eligible for rollover to a traditional IRA, with $300,000 currently invested. Since your employer’s offer dictates a move during the spring of the following year, you essentially have two tax years to exploit the Roth conversion opportunity by converting $150,000 prior to the completion of the current tax year, followed by the final $150,000 conversion in the new tax year prior to your spring transition date. This strategy would split the tax liability over two tax years and potentially keep you in a lower tax bracket for each year. Let’s assume that, your federal marginal tax rate is 24% on each conversion ($36,000). Since Texas has no state income tax, as a resident, you would have no state tax your total tax liability to the United States would be 72,000, spread over two tax years, and you would pay nothing to Canada when you take distributions.

Let’s compare this strategy to what would take place if you were to move to Canada and maintain the $300,000 in the 401K. As a resident of Alberta, the 401K would eventually be transferred to a rollover IRA, and you would take distributions later in life. Since the highest tax brackets are reached at much lower income levels in Canada, in this particular example, the distributions from the unconverted 401K, assuming the same income level, would be taxed at around 48% in Alberta (current combined federal/provincial rate). This is double the 24% tax rate of the conversion. Converting the 401K to a Roth IRA prior to becoming a Canadian tax resident would have resulted in effective tax savings of 50% on the $300,000 in question. As well, the growth within the Roth IRA on the original $300,000 would have been free from taxation from either country.

As outlined by the above example, employing a Roth conversion strategy prior to establishing Canadian tax residency could result in substantial tax savings for many individuals. It is important to note that the amount of tax savings that would result from this strategy are highly dependent upon the specific facts and circumstances of each individual as well as future tax and exchange rates. In addition, this strategy is also dependent upon filing the proper Treaty-based election with the filing of your first Canadian resident income tax return. As a result, it is paramount that you seek the guidance of qualified Canada-US Cross-Border financial advisors and tax professionals  prior to making any decision regarding this strategy. Feel free to contact Cardinal Point if you have further questions.

Filed Under: Articles Tagged With: Canada-US Cross-Border financial advisors, Canadian tax residency, cross-border wealth management, Immigrating to Canada

Is the Stock Market too Concentrated?

August 8, 2018 By Cardinal Point Wealth

It probably doesn’t come as a surprise that Amazon, Netflix, Microsoft, Apple, Alphabet and Facebook have been some of the best performing stocks in the first half of this year. But what may be surprising is that those six stocks made up 98% of the S&P 500 Index returns for the first half of 2018 according to a recent CNBC article1!

Many headlines over the last year have pointed out just how large these tech giants have grown For the first time since 20002, the tech sector now represents 25% of the S&P 500. When viewed another way, the market capitalization- the amount investors have deemed the companies are worth of the top (largest) five companies is approximately equal to the bottom (smallest) 282 companies in the S&P 500, as illustrated by the amazing pie chart below created by Michael Batnick of Ritholtz Wealth Management3.

 

Weight of top 5 companies in S&P 500 versus bottom 282 companies

cross border

 

In other words, the bottom 56% of the S&P 500 has the same market capitalization as the top 1%. That’s a lot of companies. Those 282 listed include many household names such as Chipotle, Kohl’s, Clorox and H&R Block, all of which are multi billion-dollar firms on their own. Which begs the question, is it typical for a handful of the largest companies to dominate an index?

It turns out that historically it’s not uncommon for the largest companies to represent an enormous percentage of the index. Today the largest 10 companies represent a little over 20% of the large cap space  That’s right about the average we’ve seen over the last few decades, and significantly lower than it was in the 1960s, according to a recent study by Travis Fairchild at O’Shaughnessy Asset Management4. This study also found that on average, about 6-7 of the top 10 names fall out of the top 10 within the following decade, suggesting that many of the current top ten companies will be replaced in the next ten years.

This phenomenon isn’t limited to just the U.S. According to Benjamin Felix of PWLCapital, through July 13th of this year, 75% of the S&P/TSX return came from just 10 of its 246 stocks, led by Suncor Energy, Toronto-Dominion Bank and Shopify5. This may lead you to ask, is there anything I should be doing as an investor to take advantage of this?

First off you should note that well diversified portfolios likely hold all the names mentioned in this piece; Amazon, Apple, TD, etc. are some of the largest holdings for most North American investors. But investing a portfolio solely in those largest companies has two pitfalls- undue concentration of risk and missed opportunities in other areas of the market.

The first pitfall of investing solely in individual names – even some of those red-hot tech stocks, came home to roost at the end of July. Both Facebook and Twitter reported earnings which fell short of market expectations. On July 26th, the day after their quarterly earnings announcement, Facebook fell by a whopping 19%, erasing $120 Billion USD in value! This amount is greater than the entire value of large companies like GE, Nike or Starbucks. A day later, following Twitter’s earnings announcement, that stock also fell 19%. Twitter had been one of the best performing stocks over the previous year prior to that announcement.

While these companies are included in most major stock market indexes, the performance of any individual company is going to be relatively small in comparison to the entire index- for example the S&P 500 was basically flat on July 26th, even with Facebook falling dramatically. But if you owned them individually- they would likely represent a far greater percentage of your overall assets.

Another major downside of only holding those largest of companies is missing out on large potential gains elsewhere. Small companies outperformed their large cap counterparts in the U.S. and Canada significantly over the second quarter of this year. And academic research shows that historically small companies have outperformed their large counterparts over decades6. Yet for the average investor, it’s difficult to not want to go all in on the large gains you’ve recently seen on familiar companies you likely interact with every day.

If outperforming were as easy as picking the recent winners and calling it a day, active fund managers would have a far better track record than they currently do. But as we’ll explore in a future blog, the record of both U.S. and Canadian active stock managers is poor, supporting the idea that it’s extremely difficult to outsmart the market and predict in advance who the winners of tomorrow will be.

Like the Apples or TDs of today, or the IBMs or Blackberrys of the past, a few large high-flying companies will often garner the headlines. Yet the key to reaching your financial goals is not the fool’s errand of trying to guess what the wonder company of tomorrow will be, but in keeping a well-diversified portfolio that will own all the companies that may provide that growth.

By Matthew Carvalho, Chief Investment Officer

1Just three stocks are responsible for most of the market’s gain this year, CNBC, Jul 10, 2018
https://www.cnbc.com/2018/07/10/amazon-netflix-and-microsoft-hold-most-of-the-markets-gain-in-2018.html

2S&P 500 Hits Tech-Heavy Milestone Last Seen With Dot-Com Bubble, Bloomberg, Feb 28, 2018
https://www.bloomberg.com/news/articles/2018-02-28/s-p-500-hits-tech-heavy-milestone-last-seen-amid-dot-com-bubble

3@michaelbatnick tweet, July 18, 2018
https://twitter.com/michaelbatnick/status/1019680856837849090/photo/1

4@tbfairchild tweet, Jun 6, 2018
https://twitter.com/tbfairchild/status/1004375185179529217

5@benjaminwfelix tweet, July 13, 2018
https://twitter.com/benjaminwfelix/status/1017869943226937345/photo/1

6 Common risk factors in the returns on stocks and bond, Journal of Financial Economics 1993, Fama and French

Filed Under: Articles Tagged With: canada us cross border tax, Cross-Border Financial Advisor, cross-border wealth management

Press Release: Cardinal Point Wealth Management Inc. Acquires Seabank Capital Management Inc.

July 18, 2013 By Cardinal Point Wealth

Cardinal Point Wealth Management, Inc. announced today that it has acquired Seabank Capital Management Inc. With the addition of Seabank Capital, Cardinal Point continues to establish itself as the leading provider of cross-border wealth management solutions for residents of Canada and the United States.

Cardinal Point Wealth Management, Inc. is a Canadian-based, fee-only financial planning firm that specializes in assisting affluent individuals and families in the U.S. and Canada with their domestic and cross-border financial planning. The firm is part of the Cardinal Point Group of Companies, which also includes Cardinal Point Wealth Management, LLC, a provider of investment, financial and cross-border planning services in the U.S.

Seabank Capital Management Inc. is a Vancouver-based boutique investment firm. Seabank specializes in providing cross-border advice and investment management services to citizens and ex-patriots living in Canada and the U.S. The firm is a registered investment advisor in the U.S. and a registered portfolio manager in Canada.

“Under Dan Walkow’s leadership, Seabank Capital has long delivered customized portfolio management solutions of the highest caliber to their clients. We are thrilled to have a professional of Dan’s talent join the Cardinal Point team,” said James Sheldon, Chief Executive Officer of Cardinal Point.

According to Seabank Chief Investment Officer & Managing Director Dan Walkow, “We believe that bringing Cardinal Point and Seabank together will synergize our operations and ultimately provide clients with a more robust firm. We are excited to leverage the combined strength and expertise of both businesses.”

This acquisition reinforces Cardinal Point’s commitment to and presence in the cross-border arena. There has been a dramatic rise in demand for financial advice and guidance for individuals with assets on both sides of the border or who are transitioning between the U.S. and Canada. The firm plans to continue to expand its operations throughout the U.S. and Canada to meet this growing demand for its specialized solutions. Cardinal Point Wealth Management Inc. now has offices in Toronto, Calgary and Vancouver, while Cardinal Point Wealth Management, LLC has offices in Irvine and Boca Raton.

Very few firms today provide a truly integrated Canada-U.S. investment strategy and have the personnel in place to deliver personalized financial planning solutions. Through its acquisition of Seabank Capital, Cardinal Point further strengthens the firm’s unique ability to help investors manage their wealth on both sides of the border.

Filed Under: Cross-Border Wealth Management, interviews, press release Tagged With: Cardinal Point Press Release, cross-border wealth management, seabank capital

Terry Ritchie joins the firm as Director, Cross-Border Wealth Services

May 16, 2013 By Cardinal Point Wealth

Cardinal Point Wealth Management Inc. (“Cardinal Point”) is pleased to announce that Terry Ritchie has joined the firm as Director, Cross-Border Wealth Services.

With a wealth management career spanning 25 years, Ritchie brings substantial experience in the areas of financial, investment, tax and estate planning. Ritchie specializes in assisting affluent individuals and families with their Canada-U.S. cross-border financial planning complexities.

“Terry brings a very specialized set of skills to our firm,” said James Sheldon, CEO of Cardinal Point. “There are very few individuals in our industry with his cross-border financial planning knowledge and experience.”

At Cardinal Point, Ritchie will lead the Canada-U.S. cross-border wealth services division, which focuses on providing clients with comprehensive cross-border investment, financial, tax and estate planning and transition planning solutions. Prior to joining Cardinal Point, Ritchie owned and operated his own cross-border financial planning and tax practice.

“Ritchie’s ability to address the most sophisticated cross-border wealth management complexities is what separates him from a traditional, domestically-based financial planner,” adds Sheldon. “With the addition of Ritchie, our cross-border clientele will gain access to a thought leader whose advice has assisted generations of cross-border families over the years.”

Ritchie is a Registered Financial Planner (RFP) in Canada, enrolled to practice before the U.S. Internal Revenue Service (IRS) as an Enrolled Agent (EA). He is also a Trust and Estate Practitioner (TEP) affiliated with the Society of Trust and Estate Practitioners (STEP). He graduated with a Bachelor of Science in Finance from Arizona State University. He is active as an author, speaker and educator on international financial, tax and estate planning matters.

Filed Under: Cross-Border Wealth Management, interviews, press release Tagged With: Cardinal Point Press Release, cross-border wealth management, Terry Ritchie

Canadian Expat Network Profile of Jeff Sheldon

June 14, 2011 By Cardinal Point Wealth

This profile of Cardinal Point’s Jeff Sheldon on the Canadian Expat Network (CEN) talks about his transition to the U.S. and his role in starting a multi-office, cross-border financial planning firm. He also discusses how the firm is uniquely positioned to understand the Canadian mindset and cater to those specific financial planning and investment management challenges.

Filed Under: Cross-Border Wealth Management, interviews, press release Tagged With: Cross-Border Financial Advisor, cross-border wealth management, Jeff Sheldon

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"Cardinal Point" is the brand under which the dedicated professionals within the independent Cardinal Point Group of Companies collaborate to provide financial and investment advisory, risk management, financial planning and tax services to selected clients. Cardinal Point comprises two legally separate companies: Cardinal Point Wealth Management Partners, LLC, a U.S. registered investment advisor and Cardinal Point Capital Management ULC is a U.S. registered investment advisor and a registered portfolio manager in Canada (ON, QC, MB, SK, NS, NB, AB, BC). Advisory services are only offered to clients or prospective clients where the independent Cardinal Point firms and its representatives are properly registered or exempt from registration. Each firm enters into client engagements independently. This website is solely for informational purposes. Past performance is no guarantee of future returns. Investing involves risk and possible loss of principal capital.