Many dealers have been switching to a fee-based model. One perceived benefit, from the investor’s point of view, is the potential to deduct advisory fees on a non-registered account. They would be unable to deduct these fees directly in an “embedded fee” model.
This raises the question: When are advisory fees tax-deductible?
Advisory fee deductibility rules
The rules for deductibility of advisory fees1. can be found in section 20 (1) (bb) of the Income Tax Act.
- (1) (…) in computing a taxpayer’s income for a taxation year (…), there may be deducted (…)
(bb) an amount, other than a commission, that
- is paid by the taxpayer in the year to a person or partnership the principal business of which
- (A) is advising others as to the advisability of purchasing or selling specific shares or securities, or
- (B) includes the provision of services in respect of the administration or management of shares or securities, and
- is paid for
- (A) advice as to the advisability of purchasing or selling a specific share or security of the taxpayer, or
- (B) services in respect of the administration or management of shares or securities of the taxpayer;
The Income Tax Act allows a taxpayer to deduct fees paid for advice on buying or selling a specific share or security, or for the administration or the management of the shares or securities, provided the amounts deducted are reasonable. A reasonable fee is defined as a fee charged normally in an arm’s length relationship.
Advisory fees are deductible against any type of income at the federal level. However, Quebec has its own rules in this area. In Quebec, advisory fees are only deductible against investment income (interest, Canadian dividends, foreign income and taxable capital gains). If there is not enough income generated by the investments to use the deduction, the unused portion of the deduction can be accumulated in Schedule N and used at any time in the future, subject to investment income earned in those years.
Fees paid for other types of advice, such as financial planning, are not within the provisions of paragraph 20(1) (bb), and thus are not deductible.
Commissions paid by an investor are specifically excluded from the definition of advisory fees. So, commissions paid to stockbrokers to process transactions or deferred sales charges incurred by investors for early redemptions of mutual funds are generally not deductible under paragraph 20(1)(bb). All is not lost however, as commissions paid increase the adjusted cost base (ACB) of an investment at purchase or sale, thus reducing capital gains or increasing capital losses when the investment is eventually sold.
Although not specified in paragraph 20 (1) (bb), fees charged by the trustee of a registered retirement savings plan, directly to the annuitant, are also not deductible, as the shares or securities held in the plan belong to the trust and not the annuitant. This means that no fees are deductible if paid in relation to a registered account (i.e., RRSPs, RRIFs, TFSAs, RESPs, RDSPs).
Paragraph 20 (1) (bb) mentions that the advice given has to be related to a share or a security owned by the taxpayer. What is considered a security? Stocks, bonds, mutual funds, corporate class mutual funds and ETFs, would generally all qualify as securities and would normally allow the deductibility of advisory fees if paid for advice regarding the purchase or sale of the securities or administration of the securities.
Do segregated funds constitute a security? It seems not. CRA has taken the position that, for the purpose of paragraph 20(1) (bb), a segregated fund contract is an insurance contract and not a share or security 2. Consequently, according to CRA, paragraph 20(1) (bb) does not apply to fees paid by a taxpayer in respect of the advisability of the acquisition or disposition of segregated fund or for the administration or management thereof.
Please note that to be deductible, the advisory fee must be paid by the taxpayer and needs to be paid for advice or service pertaining to shares or securities held directly by the taxpayer. These requirements, described in 20 (1) (bb), create many ramifications. In the case of a mutual fund, the fund pays the management fee (which is similar to an advisory fee) to the fund’s portfolio manager. As the investor is not charged this fee directly, it is not deductible at the investor level. Similarly, any trailing commission paid to the dealer in respect of the sale of the mutual fund is also paid by the mutual fund and not the investor directly. So, such commissions are also not deductible.
If an advisory fee is charged directly to the investor, the advisory fee is charged directly to the investor (i.e., not embedded as part of its MER), the fee would normally be deductible against income for the investor, if other criteria are met – namely, the fee is paid in respect of advice regarding the purchase of eligible securities (including mutual fund units or shares) owned directly by the investor. However, mutual fund portfolio management fees themselves are not normally deductible at the investor level. Why? Again, par. 20 (1) (bb) specifies that the shares or securities must be held directly by the investor for deductibility to be possible. The CRA has supported this position in several technical interpretations.
François Bernier, notary
Director, Tax and Estate Planning
1Referred to by CRA as “investment counsel” fees. We are using advisory fees, as it is a more familiar term.
2Conference for Advanced Life Underwriting (CALU) Roundtable, 2014-0523321C6, May 6, 2014.
Information contained in this article is provided for information purposes only and is not intended to provide specific financial, tax, insurance, investment, legal or accounting advice and should not be relied upon in that regard and does not constitute a specific offer to buy and/or sell securities. Information contained in this article has been compiled from sources believed to be reliable, but no representation or warranty, express or implied, is made with respect to its timeliness or accuracy.
© Sun Life Global Investments (Canada) Inc., 2019
Sun life Global Investments (Canada) Inc. is a member of the Sun Life group of companies.