ETF education

Generally, the tax considerations of investing in a BMO ETF include the treatment of distributions paid by the BMO ETF and the treatment of the gain or loss realized on selling the investment in the BMO ETF. For more information access the BMO ETF taxation guide.

A Canadian resident investor who sells ETF units that were held by the investor as capital property will generally be considered to realize a capital gain (or capital loss) in the amount by which the sale proceeds, net of reasonable expenses of the sale, exceeds (or is less than) the investor’s adjusted cost base (“ACB”) of the units.

BMO ETFs pay distributions as income or capital gains. The term “dividends” is usually used to describe distributions paid on shares of a corporation; however, some ETFs, especially in the US, use the terms dividends and distributions interchangeably to refer to distributions of income of all types, including dividends, interest and capital gains. We specifically use the term “distributions” as the appropriate term when discussing BMO ETFs.

While your primary focus as an investor should be on the yield from your investment as well as the capital appreciation, the tax treatment of distributions on the investment is also important. From a tax perspective, distributions from ETFs are composed of the following types of income:

• Dividends

The individual stocks or shares held by an ETF pay dividends that are received by the ETF. Distributions by an ETF to investors out of the ETF’s dividend income are generally treated as ordinary income to the investors. However, where the ETF pays a distribution out of dividends received by the ETF from Canadian companies, an investor can treat that distribution as if it were a dividend from a Canadian company. For investors who are Canadian resident individuals, this means that such a distribution qualifies for the lower effective tax rate applicable to dividends from Canadian companies.

• Interest and Other Income

Fixed income ETFs receive interest on their investments in bonds and other debt obligations. Distributions by an ETF to investors out of the ETF’s interest and other income are generally treated as ordinary income to the investors.

• Capital Gains

An ETF may also realize capital gains on the sale of investments in the ETF’s portfolio. If the ETF pays a distribution to investors out of its net realized capital gains, an investor can usually treat this distribution as if it were a capital gain realized by the investor. As is the case for realized capital gains, only one-half of such a capital gains distribution has to be included in the investors’ income.

• Foreign Income and Foreign Tax Paid

An ETF may earn dividends or interest on foreign investments and therefore be required to pay foreign withholding tax. When the ETF pays distributions out of this foreign income, an investor that pays Canadian tax may be able to claim a foreign tax credit for some of the foreign tax paid by the ETF, depending on the investor’s particular situation.

• Return of Capital

In some cases, an ETF may distribute an amount to investors as a return of capital that is generally not taxable to investors. However, such a distribution will decrease the ACB of the investor’s units. When the investor sells the ETF units, the lower ACB will increase the capital gain (or decrease the capital loss) that would otherwise be realized on the sale.

BMO Asset Management Inc. does not provide information about the tax implications for non-resident investors in BMO ETFs. Non-resident investors should contact their brokers, financial advisors, lawyers, and tax advisors to obtain more information on securities regulation, as well as currency and taxation issues in regards to investing in BMO ETFs.

BMO ETFs pay distributions out of their income in cash on either a monthly, quarterly, or annual basis. Generally, the greater the income in the fund, the higher the distribution frequency.