Tag: Income

Si, si, si – Translating YES into your financial planning

For many people – especially young adults breaking into their careers – financial planning may feel like learning another language.  There are new concepts, words and phrases, and time required to master how and when to apply them.

Now I’m not suggesting that Spanish is required, but you probably know that “si” means yes.  By repeating that three times, si-si-si, you have a simple acronym that takes you through common stages in your actual life as a way to look at decisions in your financial life:

S chooling
I ncome
S aving
I nvesting
S pending
I nheritance.

Elements of all of these are at work at any time, so these titles are really meant to highlight the principal focus at a particular stage.  As well, the time spent at any one stage will vary from person to person, sometimes with significant overlap and blurring of lines between them.  In fact, you may go back through repeated cycles over your life, so think of this as isolating key issues to help you identify, build and apply your financial planning skills.

Schooling that fits your outlook

Education is the foundation for your life ahead.  Choices you make at this stage can both open up and close off where you may be going, whether that’s formal schooling, hands-on experience or a blend of the two. Whatever path you take, this is when you are almost always spending more than you are earning, but it is truly an investment in yourself.

Income that supports the lifestyle you are living

As an income earner, you will be able to pay off education debt and move into positive cash flow for your current purposes.  Managing this flow can be tricky, so be aware how much of your spending is going to needs and how much is consumed by wants.  Those wants are what makes life more livable, but if they push beyond your current financial means, it’s time to either scale back or look for ways to improve your earning capacity.

Saving towards your future self

You have a past, you are in the present, and you will have a future.  With a good handle on your present finances, you can devote a manageable amount of excess income to feed your future.  With increasing clarity of that future vision as savings grow, you won’t experience saving as a pain of loss, but rather as a gain of future comfort and flexibility.

Investing your savings

Investing is not saving.  It is what you do with savings.  To this point the emphasis has been on building your skills and behaviours, in order to create savings distinct from your own earning power in the labour market. Investing layers on top of that, providing the opportunity and necessity of putting your money to work in the capital market, delivering the growth, protection and accessibility to meet your later life requirements.

Spending later rests on the decisions you make much earlier in life

Obviously you spend throughout your life, but in retirement it is the dominant feature of your finances.  You may continue some work as a way to ease into it, but eventually your only income will be from your invested savings, with assistance from government sources.  While retirement coincides with advancing years, a comfortable retirement is not simply based on reaching a particular age, but rather relies on having accumulated sufficient financial resources to sustain you in what will be your non-earning years.

Inheritance

Just as we are tied by love and emotion to the family and friends around us, we often have intertwined and interdependent financial lives.  Providing an inheritance to others is a combination of moral force, financial need and legal obligation.  Be conscious how this affects your planning, so that that you have a high degree of certainty that you will meet your needs and expectations through your life and beyond.

Ponzi distribution taxable after all – Appeal court reverses trial decision

Several recent high-profile Ponzi schemes have stolen fortunes and unfairly tainted the financial advisory profession. In truth, it’s inappropriate to call the perpetrators of these schemes advisors, since they’re pursuing their own selfish interests, not those of their investors, whose trust they’ve betrayed. 

To add insult to injury for victims, losses incurred in a Ponzi scheme are rarely deductible when calculating income tax.

In a surprising decision in 2011, a trial judge determined one innocent Ponzi scheme investor who had a net-positive result would not be taxed on the gain. The finding was overturned by the Federal Court of Appeal (FCA) last September, but the fight may not be over yet.

Anatomy of a fraud

In 1997, a mutual friend introduced DMJ to Andrew Lech, who said he was the financial manager for a family trust. Lech offered to combine DMJ’s money with the trust’s funds, purportedly to invest in options contracts on an ongoing basis. 

On numerous occasions between 1997 and 2003, DMJ gave Lech a cheque in exchange for eight-to-10 postdated cheques of his own, with the last one representing DMJ’s gains. To sweeten the deal, Lech gave written assurance that any associated taxes would have been paid by the trust, so DMJ didn’t have to report any income on her tax return.

The scheme came to a screeching halt in April 2003 when the police froze Lech’s bank accounts. Forensic auditors determined that from 2001 to 2003 alone, almost $50 million had passed through Lech’s hands. 

A civil class-action suit, a criminal case, and regulatory action by the Ontario Securities Commission followed. In 2007, Lech was convicted of fraud and sentenced to six years in prison — on top of the three he spent in pre-trial custody. 

The Queen v. DMJ

The CRA audited 132 of the participants in the scheme and concluded 32 — including DMJ — profited from their involvement. To be clear, it was not alleged DMJ was involved in the fraud; the authorities said she profited innocently.

In 2007 DMJ was reassessed by the CRA for income of $614,000 in 2002 and $702,000 in 2003.

DMJ appealed the reassessments, but conceded during the legal proceedings that these sums accurately reflected the gains she received from Lech. However she contended that no income was actually generated over the course of the transactions, and therefore there was no legal basis for the CRA to assess her for tax on those receipts.

At trial in November 2011, the judge found the gains were not sufficiently connected to DMJ’s original capital to treat them as coming from a taxable income source. In the judge’s words, “nothing was actually earned with that capital. … The Net Receipts were nothing more than the shuffle of money among innocent participants.”

Effect of a scheme on taxation

As noted, the Crown was successful in its appeal to the FCA in September 2012. The appeal judgment emphasizes that “whether a Ponzi scheme is a source of income to a particular person, whether innocent or not, is a question that must be answered on the basis of the facts relating to that person.” 

According to the FCA, when the relationship between two parties is based on fraud, there can be no source of income. In this case, however, DMJ received a contracted return from Lech in a business relationship. The manner in which Lech generated the funds for those returns was irrelevant, even if it was through an unlawful Ponzi scheme. 

DMJ has applied for leave to appeal to the Supreme Court of Canada. It is docket 35090 on the SCC website.