Have you ever scanned through a mutual fund list and seen the same fund offered as both “ABC Canadian Equity Fund” and “ABC Canadian Equity Fund Corporate Class”? These two funds have the same holdings, but the corporate class version is structured to be more “tax-efficient”.
Why the need for tax-efficiency?
Unlike RRSP accounts, investors with open (or non-registered) accounts may have to pay taxes in two instances. First, they have to pay taxes on the annual distribution of the fund, which can come in the form of interest, dividends, or capital gains. Second, when part or all of the units of a fund are sold, they face taxes if those units have increased in value. Corporate class funds can help defer or reduce the tax impact of both these situations.
Because of this, corporate class funds can be of great benefit for various types of investors such as retirees, income seekers, and investors who frequently switch in and out of funds.
How are corporate class funds designed to be more tax-efficient?
Common mutual funds are structured as “trusts” and sold in units. With corporate class funds, the mutual fund company establishes a corporation with different share classes, each representing one mutual fund. For example, Class A shares would represent “ABC Canadian Equity Fund” and Class B shares would represent “ABC Global Fund”. The main tax advantage of the capital class share structure is that switching from one fund (share class) to another does not trigger any capital gains, even if the fund has appreciated in value. As long as you switch within the same mutual fund corporation you avoid having to pay taxes.
Furthermore, certain mutual fund companies also take measures to reduce the impact of annual taxable distributions. Different forms of distributions are taxed at different rates, with capital gains and dividends being preferable to interest income. Most corporate class funds will issue distributions only as capital gains or dividends.