How do dividends work for Canadian ETFs?

What are ETF dividends?

Dividends are a portion of profits that a company shares with its shareholders, typically paid quarterly. Canadian stock markets include many companies that pay a high dividend. The dividend yield is the annual dividend per share divided by the price per share.

Selecting and managing your own dividend stocks can be time-consuming, however. Here’s where Canadian dividend exchange-traded funds (ETFs) enter the scene. They offer investors a diversified stock portfolio, which could include dividend-paying companies, that’s easy to manage. For example, the Fidelity Canadian High Dividend ETF (FCCD) holds 65 dividend-paying stocks, as at Jan. 15, 2024.

There are several varieties of dividend ETFs, including ETFs comprising U.S. or international stocks—for example, Fidelity’s U.S. High Dividend ETF or International High Dividend ETF.

How do dividends work in Canada?

Not all companies pay dividends—it isn’t mandatory to do so. However, paying a healthy dividend can make a company’s stock attractive to income-seeking investors. A company’s board of directors decides the amount to be paid to shareholders based on factors such as profitability, cash flow and the company’s future investment plans. Many companies aim to pay a consistent dividend, which often grows over time.

To be eligible to receive the dividend, an investor must own shares on what’s referred to as the “ex-dividend date”—the first date that the stock trades without the right to receive the dividend. The actual list of those who will receive dividends is prepared on the “record date,” which is typically the business day after the ex-dividend date.

Dividends are paid on a per-share basis, so the amount of money shareholders receive depends on the number of shares they own. For example, if a company announces a dividend of 10 cents per share, and you own 100 shares, then you would receive $10 of dividends.

In the case of ETFs, since the fund owns the underlying shares, it receives all the dividends it is eligible for. After receiving the dividends and subtracting expenses, the ETF could either distribute the net dividends to unit holders or reinvest them. To help maximize the effect of compounding, you could choose the dividend reinvestment plan (DRIP), where the dividend distributions you receive from a fund are used to purchase additional units of the same fund at the current market price. For example, FCCD distributes dividends monthly, and investors can opt into a DRIP to automatically purchase more units.

When do dividend hikes, cuts and pauses happen?

Consistent and increasing dividends are often viewed as a sign of a company’s financial health. Investors often read into changes—or lack thereof—in a company’s dividend policy.

• Dividend hikes: This could signal that a company is in good financial health and has a positive outlook for the future. Consequently, the stock could seem attractive to investors.
• Dividend cuts: Investors may view a reduction in a company’s dividend payout as a negative sign, perhaps indicating a decrease in profit or a cash-flow crunch.
• Dividend pauses: If a company temporarily stops paying dividends, it could cause investors to take a step back and reconsider their investment. The pause could be due to a slump in profit, but it could also signal significant upcoming capital investments.

As an ETF investor, however, you don’t need to navigate these dividend events yourself—that’s the fund manager’s job, if it’s an actively managed ETF. The fund manager tracks each company in the ETF’s portfolio and makes investment decisions based on the latest news and analysis.

How are dividends taxed in Canada?

Dividends are not taxable in Canada when held in registered accounts, such as your tax-free savings account (TFSA) and registered retirement savings plan (RRSP). However, in the case of foreign stocks, or Canadian ETFs holding foreign stocks, there may be withholding tax on dividends. In the case of non-registered accounts, dividends from Canadian publicly traded companies are taxed at a lower rate than interest. Since companies pay dividends from after-tax earnings, the government reduces the investor’s tax burden by offering a “dividend tax credit” that reduces the tax payable by the investor. Canadian dividends are also subject to a gross-up to adjust the dividend to the approximate amount of pre-tax income earned by the company. Here’s how Canadian dividends in a non-registered account are taxed:

The above example assumes a 30% marginal tax bracket for the investor. The tax payable will vary at lower or higher incomes. Interestingly, at low incomes, an investor may pay little to no tax on Canadian dividend income. To be clear, this dividend tax credit only applies to Canadian companies. Dividends received from public companies outside Canada are taxed as regular income—at the investor’s marginal tax rate.

Dividends from Canadian ETFs flowed through to investors are taxed in the same way as above. They’re eligible for the dividend tax credit if received from a Canadian public company, but taxed as regular income if received from non-Canadian companies.

Note that the withholding tax is available as a foreign tax credit. For example, an investor might get an $85 distribution from an ETF, but the taxable amount might be $100. They will get credit for foreign withholding taxes of $15, which they can use in their foreign tax credit calculation.

How to buy Fidelity’s dividend-focused ETFs

You can access Fidelity’s dividend-focused ETFs in two ways:

• Financial advisor: You may be able to invest in Fidelity ETFs through your financial advisor. They can assist you with whether dividend-focused ETFs are suitable for your portfolio and investment goals, which one(s) to buy and how much to invest.
• Online brokerage: Fidelity’s ETFs are available through most online brokerages. Log in to your online brokerage account and search for an ETF’s ticker symbol as you would search for a stock.

The high dividend yields for many Canadian stocks and the dividend tax credit make dividend investing an attractive investment option—especially for income-seeking investors in a taxable account. If you’re willing to ride the highs and lows of the stock markets over the long term, then a dividend-focused ETF may be right for you.

Read more about investing:

• How many ETFs can Canadian investors own?
• Taking an active approach to ETF investing in Canada
• What investments can I put in my TFSA?
• Building a “core and explore” portfolio with an all-in-one ETF
• Five ways to worry less about your investments with an all-in-one ETF

About Aditya Nain

Aditya Nain is an author, speaker and educator who writes about Canadian investments, personal finance and crypto. He has co-authored two books and taught at universities for 12 years.

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