Sunday 16th December, 2007

 

Maximise tax benefits

 
 
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Opportunity cost is what we reject or forego as an alternative choice, when we make an individual decision. It is not simply to do or not to do, but it is the comparative cost of doing one thing instead of doing another with your time and money.

First-movers are usually the smart movers who move before the majority realise that something is happening. They make the most gain. Early this year, in discussing the foreign exchange market, I suggested we look at currency as an asset in the portfolio. Those who made that move earned more than 25 per cent on the Canadian dollar to date.

Several baskets

Currency is a commodity and the risk associated with it is high. You counter balance that risk by ensuring you trade a percentage of your asset pie that is comfortable for you. Never put all the eggs in one basket.

Over the last several weeks we discussed the foreclosure market in real estate and the opportunity there. It’s a little bit like waiting for people to fail in their mortgage payment schedules.

First-movers read signals before anybody else. They too have an opportunity cost to bear. When the FED in the US dropped interest rates last week, the signal was that it is now easier to borrow money from the banking system. This happened because of the crunch in the mortgage market and the mushrooming of foreclosures.

It was a bid to help homeowners, and it may close off the opportunity, but will open another one.

The signals: mortgage rates will fall, greater liquidity will result, and people will be able to keep their homes if they can renegotiate their mortgage terms. On the flip side, since rates on old mortgages will go down, new mortgage rates may follow, and go down as well, creating greater opportunity, and money will be available for borrowing.

Pension plans

Another clear signal in the system is the situation with pensions and annuities. Locally, government signalled a need to double up on the amount of long-term savings for retirement.

It was forced to immediately raise public servants pensions and the senior citizens grant and pay a bonus to workers without pensions in their compensation package. These are mainly non-contributory pension plans.

The private sector is lagging behind. So far the private employers have not responded to that need to provide pension options and encourage greater savings. These are called contributory pension plans.

For those individuals who are serious about being able to maintain their lifestyles and pay their medical bills in retirement, the signal is clearer than day.

Beginning January 1, 2008, the incentive to save has more than doubled. It has moved from a deductible tax claim of $12,000 to $25,000 per year. Those people who were enjoying the maximum claim now have an opportunity to save $2,000 per month tax-free, instead of $1,000.

This means you get to save the dollars before it is subject to tax. If you pay tax on the money the tax refund will be some 25 per cent. If you can earn ten per cent or 11 per cent in the pension or annuity plan, you effectively earn 35 per cent or 36 per cent per year.

If you think the inflation figures will not fall fast enough, then consider carefully the opportunity cost involved in not taking your maximum tax claim each year.