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Which Spouse Should Claim the Investment Loan?

I received an email from Geoff last week regarding which spouse should claim the investment loan when performing a strategy like the Smith Manoeuvre.

Here is the original question:

What I am wondering about is when you are a couple, what is the best strategy or getting the best tax return from the interest paid on the HELOC used to buy investments?

For example:

  • Does it matter whose name the investments are purchased under or should they be under both names?
  • Does it matter who owns the HELOC or if it is jointly owned?
  • If the HELOC is under both names, does the tax deduction for the interest paid get split between the two people?

It really depends on the financial situation of the couple.  But lets look at the questions one at a time.

Does it matter whose name the investments are purchased under or should they be under both names?

  • Typically, it’s whoever funds the investment account is responsible for the taxation on the account.  However, investment loans are different.  You can have both spouses on the “title” of the investment loan (ie. HELOC), but it’s the name (the one who submits their SIN) on the investment account that gets taxed (and obtains the right to claim the tax deduction).
  • With that said, providing that you purchase tax efficient investments, it would be optimal to keep the investments in the name of the higher income spouse.
  • It makes sense to claim the investment income under both spouses if both spouses are in the same tax bracket.  This would help in future years when income splitting is a concern.
  • According to Ed Rempel, although you can have both names under one investment account, you can choose who to charge the investment income.  As long as you keep consistent through the years, this shouldn’t pose a problem.

Does it matter who owns the HELOC or if it is jointly owned?

  • As mentioned above, if the HELOC is jointly owed, you can put the money into an investment account of either spouse, or a joint account.

If the HELOC is under both names, does the tax deduction for the interest paid get split between the two people?

  • Again, it doesn’t matter if the HELOC is under both names, what matters is the name on the account that is investing the money.  The owner of the account investing the money, is the owner of the tax deduction and tax liability.

Conclusion:

Be sure to claim the investment loan under the spouse with the highest income.  If both spouses have similar rates, then invest under both names.

I am not a tax professional, please consult an accountant before following any taxation advice you find here. 

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FT About the author: FT is the founder and editor of Million Dollar Journey (est. 2006). Through various financial strategies outlined on this site, he grew his net worth from $200,000 in 2006 to $1,000,000 by 2014. You can read more about him here.

{ 28 comments… add one }
  • FourPillars September 25, 2007, 10:00 am

    I liked yesterday’s title better :)

    This is good information. I think I might have made an error with some of my leveraged buying because some of it ended up getting mixed in with my regular mortgage which is locked in for several years. What happened was that I made a purchase with my LOC at my old bank – then I transferred the mortage + LOC to new financial institution and put it all together in the locked in mortgage (at a good rate). Co-mingling probably doesn’t help if I get audited but I figure that since I have the paper trail I should be ok.

    Mike

  • FrugalTrader September 25, 2007, 10:44 am

    Hey FP, as you stated, provided that you keep a proper paper trail, everything should work out. Do you do your leveraged buying with a regular LOC?

  • FourPillars September 25, 2007, 10:54 am

    Thanks.

    I do my leveraged buying with a home equity secured line of credit (FirstLine Matrix) – not sure if that is what you mean by a “regular” LOC.

  • Telly September 25, 2007, 12:36 pm

    Good post! The only thing I would add is that one should also consider, especially since this is likely a long-term endeavour, potential changes in incomes. For example, if one spouse is currently the lower income earner but is doing a Masters for example, they may in fact, end up the higher income earner over the long run. Also, consider the fact that one spouse may decide to stay at home at some point.

    FT, is this hands down always the case? I wonder, if investing in buy-and-hold dividend paying stocks (no cap gains), would it always make sense to invest in the higher income earners name? I’m wondering if dividend gross-up (depending on the province) might make the opposite more appropriate depending on the income levels of each spouse. I don’t have any numerical examples (I’m too lazy ;)) though.

  • FrugalTrader September 25, 2007, 2:09 pm

    Perhaps if future income will be variable, then putting the investment loan under both names would be best. Especially if both spouses are close to retirement (income splitting).

    Telly, I would need to do an analysis on receiving dividends and the optimal tax solution. But as you stated, it would depend on income of both spouses and the province that they live in. Cannon Fodder’s spreadsheet may help in determining the outcome.

  • Ed Rempel September 26, 2007, 8:36 pm

    Telly,

    The key in determining who should claim the SM should be in who should best claim the interest deduction.

    If your investments are tax-efficient, you should be able to keep your taxable income far below the interest tax deduction for many years.

    You are right that you should look at the long term incomes. Once you start claiming the deductions and income on one person’s tax return, you need to continue, unless you sell and claim the taxable gains to date.

    FT, the tax ownership of the SM can be different from the names registered for the investements or the investment credit line. This takes some explaining, but the short answer is that we always have both the investments and the investment credit line in joint names, but then claim the deduction and interest wherever it is best.

    Ed

  • Man From Atlantis September 30, 2007, 10:28 am

    Hi Ed,

    Would you explain your thinking behind putting the investments in Joint name and then claiming the deduction and interest wherever it is best. Are you suggesting that you would change who claims the deduction based on their annual taxable income. If so, would that be an issue with CCRA?

  • Ed Rempel September 30, 2007, 7:15 pm

    Hi Atlantis,

    The reason we usually put the investments in joint name is for estate planning purposes – joint with right of survivorship.

    The legal and tax ownership of investments can be different. For example, the entire section on attribution rules is about investments in one person’s name but the income is taxed back to someone else.

    So, we can have the investments in joint name and then can have both the loan interest deduction and the tax on the investment income taxed to either or both, whichever is best.

    However, you should not change it after that. If for example you have the entire SM taxed to the husband and things change so it would be better to have it all taxed to the wife, the only way to do this is to sell the investments and pay off the loan – and then reborrow and rebuy.

    Therefore, our choice of which spouse to tax to (or joint) is based on which we expect will be best for most of their financial future. It is a many year decision – not a one year decision.

    Ed

  • Steps March 27, 2008, 1:13 am

    My husband and I have a joint investment loan. I have been claiming the interest from the loan on my tax returns since getting the loan in 2003 and I have also been claiming all the capital gains, dividends, etc. (all the funds are jointly owned as well), except for last year. I was told by an accountant that we could switch it around to our benefit so I put the gains from two of our funds onto my husband’s tax return last year. I have called the CRA several times regarding this matter and each person I speak with tells me something different. One said I should put it back onto my return this year and do a T1 adjustment for 2006, one said I should go back to when we got the loan and investments and do a T1 adjustment for every year and split everything according to who invested what percentage, one said to just switch it back to me this year and the latest person ( I told her that I get a different answer each time I call) told me that if it is in both names, either one of us can claim any gains and we can switch it around each year, but it was better to be consistent. What is the correct answer.

  • Iced May 1, 2008, 4:20 am

    My wife stays home with our 1yr old son. My total income was 120K and hers was 30K. We have 200K of leverage loan so an investment income and interest expense. Can I (should I) claim the interest expense and she claim the investment income? Optimally, the higher salary person claims the interest expense and lower salary reports the investment income? I will most likely always have the higher salary now and in future.

  • elman January 8, 2009, 9:01 pm

    @Iced
    Someone correct me if I am wrong but I am sure the person who deducts the investment loan interest must also claim the investment income. You cant deduct the loan interest + expenses for yourself and have your spouse claim the investment income.

  • Scare April 17, 2009, 6:41 pm

    I am in a similar situation as Iced, anyone have any further updates for the 08 tax season

  • Ed Rempel July 19, 2009, 4:00 am

    Hi Iced, Elman & Scare,

    I just noticed this post. Elman is correct – whoever claims the interest deduction must also claim any investment income/profit.

    Since you are in the higher tax bracket and assuming you plan to invest tax-effiiciently, you should expect tax refunds most years. Therefore, you would want to claim both the interest deduction and the investment income/profit.

    Your position is that you borrowed money and invested it, which is why you claim all the tax consequences. Your investment credit line is probably in both your names, but that does not matter. You can also buy the investments in joint names with your wife for estate planning purposes, but still have claim everything yourself.

    Ed

  • Dave D August 14, 2009, 1:41 pm

    I found a post that it is based on the percentage of payment for interest.
    ei If one spouse paids all the interest on the HELOC that is the person must claim 100%. If the payments are 50/50 then it can be split.
    Is this correct?
    http://blog.taxresource.ca/deducting-interest-and-joint-heloc/

  • Ed Rempel December 14, 2009, 3:23 am

    Dave,

    I just noticed your post. That is partly right. Whoever borrowed to invest should claim both the interest deduction and the investment capital gains. That is normally designated when you first borrow to invest (or the first time you prepare your tax return).

    In general, once you designate who borrowed to invest, that should remain as long as you have the investment loan.

    You should then consider that person paid the interest. That is normally a reasonable assumption, as long as he/she made at least that much. If you decide to claim it 50/50, then both need to earn at least that amount of income each year.

    The example in the article was not a smart tax strategy anyway. If she has no income and he has a high income, it would be much smarter for them to claim everything on his return only.

    Ed

  • Dwight N July 15, 2010, 9:01 am

    Hi all,
    We live in BC. I work overseas, thus take advantage of the”overseas tax credit “. Currently my wife owns a small business { in BC } that grosses approx $50,000- 60,000 /yr and my employment income is between $100,000 – 140,000 /yr.
    We used our loc { joint acc } to buy dividend paying Canadian stocks in the amount of $100,000. Things are looking fine to date.
    So far our accountant has everything going into my wifes name. My tax knowledge is limited… does this seem to be the correct action.
    Also when my wife sells her business later this fall how will this change things.

    Dwight.

  • Ed Rempel August 13, 2010, 3:50 am

    Hi Dwight,

    Your situation sounds complicated, but most likely the SM is better claimed in your wife’s name only, because you are getting dividends.

    With the tax-efficient version of the SM, you would claim it on your return to get the refunds. With the dividend version of the SM, you would normally claim it under your wife’s name in order to pay less tax on the investment income. This depends on how much you receive in dividends vs. the loan interest.

    With the dividend version of the SM, you normally don’t get the refunds that you get with the tax-efficient version.

    By “overseas tax credit”, I assume you mean you are taxed in a different country – is that right? Which country?

    It may sound complicated, but essentially you claim your foreign income in that country and pay tax there. Then you also claim it on your Canadian return, but claim a tax credit for the tax you paid in the other country.

    This mean you essentially pay the highest rate of the 2 countries, which is probably Canada.

    Without know the details of your situation, if your employment income is fully taxed in Canada, then your tax bracket is much higher than your wife’s. Her gross may be $50-60,000, but what is the income she actually shows on her tax return after business expenses? She is probably in the low tax bracket, while you are probably in a high tax bracket.

    Your accountant may be claiming the SM under your wife, because you are using a dividend method. Dividends are taxed at negative tax rates (no tax) for the lowest tax bracket (taxable income under $41K).

    Both the investment income and the interest deduction need to be claimed by the same person(s).

    The SM is usually best claimed on the person with the highest income. If you invest in a tax-efficient investment (one with minimal taxable investment income), you should be getting tax refunds every year. The interest deduction should be more than the investment income almost every year, so you get tax refunds. In that case, you would claim the SM on your tax return.

    Ed

  • Maciej April 14, 2013, 5:53 pm

    I know the last response was a couple of years ago, but…

    Ed, it seems that my calculations are correct then for a similar situation as above, with spouse being in a lower tax bracket and dividend SM investing. I was searching for this for a while. My calculations showed that the overall benefit would be to attribute the interest from the HELOC and dividend income from SM account to the lower earner, even though our incomes aren’t as extreme (48k vs 78k in ON). Income from the dividends would bump the higher income into a higher bracket still. Even though the interest deduction would be lower the dividend tax credit treatment of the income would counter this.
    With my investments I’m more comfortable with dividends but if I understand correctly when you talk about tax efficient investments you are referring to areas where you are looking for capital gains which can be deferred as long as they are paper gains? In this case your HELOC and SM account increase by the principal payments and interest tax refund, should you choose to put that back into the mortgage.
    I’m in the process of setting up SM and our mortgage and HELOC are both joint but I was wondering how to set up the non-reg account (and possibly a dedicated chequing account). If my research and understanding are correct I could set it up all under my wife (lower bracket) but if I set it up as joint it will work as long as I claim everything at the beginning on her taxes.
    Now I just need to wrap my head around the transactions to properly capitalize the interest and I’m good to go, although the initial interest is not terribly onerous so I can sort that after :)

    Thanks

  • Maciej April 14, 2013, 5:56 pm

    Another quick question, I’ve seen the term tax bleed mentioned but not having any luck finding the definition, anyone help?

    Thanks

  • Ed Rempel May 18, 2014, 2:10 pm

    Hi Maciej,

    In general, you need to earn a total return about 1%/year higher to make up for the tax when you use dividends vs. tax-efficient growth.

    You pose an interesting question. We usually record the Smith Manoeuvre on the spouse with the higher tax bracket, to get a larger tax refund. In your case, it sounds like the dividend tax is higher than your interest tax savings, in which case recording it on the spouse with the lower tax bracket might make sense.

    The dividend tax credit would be the same for everyone, like all tax credits. So the factor to focus on is whether the grossed-up dividend is more or less than the interest deduction. It is is more, then allocate to the lower income spouse. If less, than allocate to the higher income spouse.

    In general, you should invest in joint names for estate planning purposes. You can buy the investments in joint name, but then decide which spouse (or both) will claim the interest deduction and the investment income. Once you start, you should always allocate all tax consequences to the same spouse – you should not change in the future (unless you pay off the loan and start over).

    That is why, when deciding which spouse to allocate the tax deduction and income to, you should consider not only today’s tax brackets but your future tax brackets.

    When we have done projections comparing dividends to tax-efficient investing, we usually assume something like 8% growth vs. 5% growth + 3% dividend or 2% dividend + 6% growth. In those case, you generally need to earn a total return of about 1%/year higher to have the same future benefit.

    For example, to match 8% tax-deferred growth over many years, you would need your dividend investment to average 9%/year (e.g. 3% dividend + 6% growth).

    In your case, it sounds like the dividend may be higher than 3%, in which case your total return might have to be higher than 9%/year to keep the same long term potential as an 8% tax-deferred growth.

    One more thought. Don’t take on valuation risk when you do dividend investing. Dividend investing is usually less risky than growth investing, however today many dividend stocks are quite expensive. A dividend stock with a P/E of 18 is probably riskier than a non-dividend stock with a P/E of 12.

    Ed

  • RW February 17, 2016, 3:55 pm

    I know this post is old, but I’m just running some numbers on this and seem to get confirmation that the opposite is true.

    That is to say, it appears that the net results are favourable for the lower income spouse to declare the dividend income and claim the investment interest deduction. Please let me know if I am incorrect!

    I am using the following calculator https://simpletax.ca/calculator
    Spouse A: 110,000 income
    Spouse B: 65,000 income

    HELOC: 150,000 @ 3.2% = $4800yr
    Dividend Returns: 150,000 capital earnings 5% = $7500 in dividends

    For spouse A, I put 110,000 into above calculator and got $79,534 after tax income
    I then put 105,2000 income (representing 4800 interest write off), but added 7500 of dividend income. The result was $82414 after tax income. A profit of $2880.

    For Spouse B, I put in 65,000 and got $51,756 after tax income. Then tried $60,200 and 7500 dividend for $55,317 after tax. A profit of $3561.

    That shows a 24% increase in profit by running everything through the lower income earner. Have I made an error?

    Thanks!

  • Mark November 20, 2017, 3:30 pm

    I’m checking RW’s analysis above and also came to the same conclusion. It would be great to hear from Ed or FT on this because although this blog post is very informative (and much appreciated!) it does not justify the conclusions mathematically.

    It seems to me like it depends on how you’re getting your investment returns. In my case most of my returns are unrealized capital gains (not taxed) and the dividends are smaller than the interest expense. Also I believe eligible dividends are taxed at lower than 50% (and capital gains at 50%), and I believe the interest expense deduction goes in full against your taxable income. In that case (investment income tax < interest deduction), which I think is the typical case even in RW's scenario, you would want to maximize the deduction by claiming under the higher tax bracket. However I can't reconcile this with RW's findings above. Can someone shed some light on this?

  • Mark November 20, 2017, 3:37 pm

    I just read Ed’s comments above and it helped my understanding. Thanks!

  • Mark December 13, 2017, 12:48 am

    I’m in a position where the investment is in my name but my wife is in a (much) higher tax bracket and will likely remain that way. So I would like to transfer the investments into her name (not a joint account) and I would like to do this as close to Jan 1 as possible so that the Smith Manoeuvre can be entirely in my name for 2017, and entirely in her name for 2018. In the comments Ed suggested selling, paying off the loan and reborrowing/rebuying. Is that really necessary in my case? I understand why that might be the only way to be totally 100% correct about it, but wouldn’t the numbers be so close in both cases that no one should really care?

    • FT FT December 19, 2017, 11:02 am

      Hi Mark, you cannot simply transfer assets in your name to your spouses name without having tax implications. Generally, you’ll need to show where the funds came from, or the tax will attribute back to you (higher income spouse).

      • Mark December 20, 2017, 1:47 pm

        I know there are tax implications (i.e. deemed disposition on transfer) but the funds originally came from an investment loan with both of our names on it, and I can show that. I guess that’s where it starts to get messy. Sounds like the cleanest way to do this is sell my positions and pay off the loan and then start again with the new account. Lesson learned!

        • Ed Rempel December 21, 2017, 12:28 am

          Hi Mark,

          I agree. Selling, paying off the loan, and then reborrowing to invest in your wife’s name is the cleanest way to do it.

          You cannot just transfer the investments to her, because attribution would apply and it would be taxable to you anyway.

          There might be a way if she bought them from you at market value (including writing a cheque), but there is likely not enough cash around.

          Right attitude. You learned a valuable lesson.

          Ed

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