Friday 16 January 2009

Income Trusts - Worth a Look Now?

Is this the time to look again at income trusts for income as well as potential capital gain? It has been hard to love them since the feds announced that they would tax them as corporations in October 2006, knocking 17% off their market value in one day, and even harder since the start of the credit crunch meltdown, during which (Sept08-Jan09) they've slid about 7% more than the TSX Composite.

Consider this:
  • the TSX Income Trust Index as a whole yields over 14%
  • there's another two years till the 2011 date when trusts have to pay corporate tax rates; some trusts have tax deferral credits that can allow them to last even longer without having any income that will be taxed and so can continue to operate as a trust without harm ( e.g. Bell-Aliant symbol: BA.UN, says it can go till 2012 and I think EPCOR, symbol: EP. UN, says 2013)
  • even if one removes 30% tax from present distributions (it's actually scheduled to be 28% by 2011), that leaves 70% x 14% return = 9.8%, which will be considered eligible dividends but after tax the taxable investor gets about the same amount as now (see PricewaterhouseCoopers Planning for 2011 and Beyond written around May 2008)
  • for taxable accounts, income trusts start to look like an interesting possibility, though of course, business conditions of the recession are likely also to cause a number of reductions in distributions. (For RRSP / registered accounts, PricewaterhouseCoopers show that the new tax will cut the net after-tax amount by about 28%)
  • notable quote from PwC: "Given the reaction to the SIFT tax by the markets to date, it appears that the markets do not fully consider tax issues." If that was the situation back in May and things have got relatively much worse since, isn't that saying BUY! There's a good chance prices of trusts will rise. After all Income Trusts are just various types of business in the cloak of a certain legal structure. They are not just tax artefacts like Labour-sponsored Funds were.
  • I found one Closed-End Fund Investment Trust - Citadel Diversified Investment Trust (CTD.UN) that itself holds a bunch of Income Trusts and has been trading at a huge discount around 20% from Net Asset Value, boosting the distribution yield to almost 17%. That's a lot of downside protection.


Anonymous said...

A problem is that the major component of the index is approx. 67% energy related. With the recent collapse in the price of oil the distributions are going to be slashed by many of the energy related trusts. By how much is the question, so the current yield is very misleading.

CanadianInvestor said...

That makes sense but I wonder about the REIT component,also down much more than the TSX. Several pipelines and power companies are showing high yields - would have thought those to be quite stable. S&P and DBRS rate their distribution stability as high too.

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