Labour Sponsored Investment Funds 101: Funding your RSP with Tax Refunds…

Investing in Labour Sponsored Funds (LSIF’s) has many advantages for Canadians. However there are many important factors to consider before choosing this investment within you financial plan. We have narrowed it down to the top eleven most important facts to help you determine whether or not these favorite tax credit investment vehicles maybe suitable within your portfolio.

1. 30% Tax Credit

Canadians investing inside a Labour Sponsored Investment Fund are eligible to receive a 30% tax credit on each dollar invested (SaskWorks, 2016). In Saskatchewan 20% is currently provided from the provincial government with the remaining 10% being offered by the federal government.

2. $5,000 Maximum Investment Allowed per Year

Our Clients may invest up to $5,000 for every tax reporting year. This is the number one question we receive from our clients as they recognize the immense benefits of these investments and seek to invest as much as possible into these funds. Unfortunately the $5,000 maximum is all that is eligible. The minimum however, is $1,000 which is important to realize. This ensures that residents of all income levels are eligible to participate.

3. 8 year maturity

In return for this 30% tax credit, the government enforces that you remain invested inside these funds for 8 years (SaskWorks, 2016). The rationale is that benefit that the funds invested need time to work in order to provide the measureable improvement to the provincial economy.

Clients are eligible to sell the funds at any point, however are forced to pay back the full value of the tax credits received if liquidated prior to the 8-year maturity (SaskWorks, 2016).

4. Investing in LSIF’s inside an RSP has Double the Tax Benefits

Purchasing these investments inside an RSP provides our clients an additional income deduction and magnifies the tax benefits from their investment. For example, a client in a 39% tax bracket in Saskatchewan who invests the maximum $5,000 into an LSIF would receive $1,500 in tax credits alongside the $1,950 income tax deduction from the RRSP contribution. The resulting reduction in income tax is $3450.

***Therefore the actual cost of the $5,000 investment is only $1,550 out pocket.***

5. Age Limits for Investing in Labour Sponsored Investment Funds

Canadians are eligible to invest in LSIF’s up to any age. However, they are not eligible to be purchased inside a RRIF (Registered Retirement Income Fund).

6. Diversified Pool of Private Investments

The primary underlying investments within LSIF’s are private companies. The portfolios of both Golden Opportunities and SaskWorks, the two LSIF’s available in Saskatchewan, are vastly comprised of private enterprises. Many of the investments within the funds range from debt to equity or a combination of both. They specialize in management buyouts, and specialized projects where traditional financing options may not typically be available.

7. Less Correlated Asset Class to Stock Markets

Private investments are measured in different ways than publicly traded investments. Public corporations, or stocks, are listed on a specific stock market such as the TSX Composite. These markets provide the daily pricing that buyers and sellers may trade on that particular company or security. This daily liquidity however allows any listed security to be sold at any point in time and at any volume the market deems necessary. This environment can cause extreme price volatility regardless of the reason why.

Private Investments, such as the ones commonly held inside LSIF’s do not trade on a particular stock market and therefore cannot be liquidated as quickly. Despite this lack of liquidity, these investments often are less correlated to the performance of the stock markets as they cannot be traded upon daily.

SaskWorks Venture Fund returned over 7% for investors in 2008…
while the TSX Composite Index in Canada lost over 40%

Another factor why LSIF’s are less correlated to markets is their 8 year holding period (SaskWorks, 2016). This allows the fund manager to invest more confidently into longer term investments that they deem to be the best opportunity for investors. Because the manager is not overly worried about liquidation of the fund by investors they can focus on investment quality above anything else.

8. Fees Associated with Labour Sponsored Investment Funds

Investing in private capital is always more challenging and more costly than investing in publicly traded investments. For example, when buying stock in Amazon, one simply can purchase 100 shares of AMZN with the click of a button, where as private investments require much more planning and preparation:

RESEARCH: The methods in which a fund manager researches a private company is much more extensive and cumbersome as the information for that particular company is not readily available to investors because of its private nature. In comparison, there may be thousands of research reports on Amazon which are easily available to all investors alike. Additional costs are obviously incurred in order to investigate the merits of private investments that would not likely be required when researching a particular stock. There may be appraisals, environmental reports, etc. that all may be necessary to obtain prior to the manager deciding upon a particular private investment.

ACCOUNTING: The accounting and bookkeeping requirements for private funds is usually a lot more cumbersome than with funds that invest in only public securities. The reason being is that there is a lot more involved when identifying a fair and proper market valuation of each of the underlying private companies at any given point in time. Because these funds provide weekly updates to their pricing for unit holders this can be a significant cost to their operations when compared to other traditional funds.

Fees are very important when considering any investment. We always ensure whether the additional costs of investing in LSIF’s does not over shadow the valuable benefits for our clients.

SaskWorks Diversified Fund’s 10 year annual return is 4.23%
With the additional 6% return received in the form of eligible tax refunds, the overall net return for our clients has been 10.23% per year over the past 10 years (SASKWORKS VENTURE FUND INC., 2015).
Regardless of fees, that is a great investment return under any circumstances.
***The return listed above is based on the A class fund and illustrate the return net of all management fees and/or commissions****

9. Every Dollar of Tax Savings is a Dollar of Guaranteed Return

As indicated above, we always remind our clients that ROI (Return On Investment) can be obtained in various ways. It not only when a particular investment has grown in value or has paid a distribution to the investor, but rather when their financial plan or net worth has grown. This may increase can certainly come in the form of tax refunds or savings.

We emphasize that proper tax planning is a vitally important aspect of every client’s financial plan. Labour Sponsored Investment funds provide guaranteed tax credits currently of 30% of the every dollar invested. This 30% immediately reduces the tax position of our clients and therefore is guaranteed to increases their wealth in any given year.

10. Risks

It is important to briefly explain the associated risks with investing in LSIF’s. Because they are private in nature, they are most often investing in smaller capitalized companies. Significant shifts within the underlying companies particular market sector may provide many challenges to the business. These potentially may lead to other issues such, lack of liquidity, inability to obtain financing, raising capital, etc. It is important to consider the risks of investing in private investments and should always assess whether it is suitable for your own personal situation.

Important factors to consider are your age, investment time horizon, previous investment experience, and your portfolios investment objectives.

11. Who are Labour Sponsored Investment Funds best suited for?

Really any Canadian that wishes to leverage their income tax to fund their retirement should consider investing in LSIF’s. Many of our clients have invested in these consistently over the past years.

$5,000 invested annually into the SaskWorks Diversified Fund over the past 8 years….
Would now be worth….$54,032 !!! If invested inside an RRSP and at a 35% income tax bracket,
the client would have only invested $10,000 out of their own pocket !!!

LSIF’s are best suited for clients who want to diversify their portfolios with private investments and understand the nature and risks associated with this asset class. There are many advantages to investing in LSIF’s however, their are also some apparent risks. It is important to have a thorough discussion with an Investment Advisor in order to property identify whether these types of investments should be a part of your portfolio.

Ensure your Investment Advisor is having this important discussion.
Because if you haven’t you have been missing out on one of the very best
tax advantages available to you as an investor.

Written by: Todd McLay

Precedence Capital / Gravitas Securities Inc.

Disclaimer: The views, opinions and positions expressed by the author and those providing comments on these blogs are theirs alone, and do not necessarily reflect the views, opinions or positions of Gravitas Securities Inc.