What is Return of Capital (ROC)?

What is Return of Capital (ROC)?

Date

June 16, 2023

Date

June 16, 2023

Date

June 16, 2023

By Harvest ETFs

Taxation: Return of Capital

Investors may receive distributions from Harvest ETFs that are characterized for tax purposes as some or all of the following:

      • Eligible / Non-eligible Dividends
      • Foreign Non-Business Income
      • Withholding Taxes
      • Capital Gains
      • Return of Capital

 At a minimum, Harvest ETFs are required to distribute all their taxable income so the ETF itself is not subject to tax. Distributions received by investors are characterized based on the ETF’s taxable income. In this way, ETFs are flow through investment vehicles because they do not pay tax; rather the investors in the ETF do.

Sometimes an ETF may pay investors distributions that exceed the taxable income earned by the ETF.  This amount is classified as Return of Capital (ROC). ROC is not taxable in the year of payment (unless the ROC distribution exceeds the holder’s Adjusted Cost Base (ACB)) but does result in a decrease in the investor’s ACB when the ETF is held in a non-registered account. As a result, when the investor eventually sells ETF units, the lower ACB will increase any future capital gains and decrease any future capital losses on the sale of ETF units. In this way ROC is a deferral of tax.

I hold Harvest Income ETFs in a non-registered account and am receiving ROC. Why am I receiving part of my capital back?

ROC is a repayment of capital but represents a deferral of tax to the time you ultimately sell your units. This can occur when cash generated within the fund is different than its taxable income.  Reasons for this are complex and are driven by timing as well as income tax law.

You may wish to consider enrolling in the Harvest DRIP program which will offset the reduction to your ACB on any ROC distribution received in cash

If there is ROC, does this mean the ETF is paying too much to its investors?

Harvest Equity Income ETFs choose to pay a fixed monthly distribution rate per unit to their investors.  This gives investors certainty over their monthly cash flows.

There is rarely a perfect match between the cash flow generated within the fund and its taxable income.  For example, an ETF that generates a loss in one year can carry it forward and use it to offset taxable income in a future year.

Are Harvest Income ETFs that pay ROC generating sufficient cash flow to maintain the distribution rate?

Harvest Equity Income ETFs aim to generate sufficient cash flow from dividends on investments (net of withholding taxes where applicable) and premiums from their covered call option writing strategy to pay distributions to investors and its fees/expenses.

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