Retire Early and Pay $0 in Taxes Using Canadian Dividend Stocks

Yes, it really is possible. Here's how.

Back in the fall I featured a conversation I had with Jim, a Alberta plumber who retired at 50 with a $3M+ nest egg.

If you haven’t yet read Jim’s story, I highly recommend it. He’s just a regular guy who was able to achieve extraordinary things using nothing more than hard work, smart decisions, and Canada’s largest dividend growth stocks.

He slowly built up a portfolio that spun off more than $120,000 per year in passive income, splitting assets between him and his wife. Finally, in 2021, after one particularly stubborn sewer pipe caused him to “swear much more than usual,” he had enough. He quickly wrapped up his business, stopped answering the phone, and hung up his wrenches. For good.

I recently spent some more time chatting with Jim, from his new “winter headquarters” in Puerto Vallarta. He reported that his portfolio is up smartly after falling during the summer. His dividend income will surpass $130,000 this year, too. And despite “trying really hard to spend money,” he’s finding it’s tough to spend all his dividends. He’s reinvested a few but is mostly putting aside any additional funds to help out his daughters.

The real reason I got in touch with Jim again was I wanted to learn more about his tax situation. You see, one of the reasons why Jim went so hard into dividend stocks 25 years ago when he first started investing was their preferential tax treatment. With the help of an accountant, he crunched the numbers and realized a simple asset splitting strategy plus a dividend-focused investing approach would ensure an early retirement because dividends are taxed extremely well in Canada — providing they’re your only income source.

Let’s take a closer look at Jim’s reality as an early retiree living on dividends, and how you can replicate his strategy.

How Jim pays (virtually) zero taxes

When Jim finally retired in 2021, he was a little nervous, about a lot of things. Would he get bored and go back to work? Would his dividend portfolio be safe?

His more immediate concern, however, was whether his dividend tax strategy would work.

He knew he’d pay taxes in 2021. After all, he worked for half the year. But 2022 was the real test.

Jim inputted all his info into Turbo Tax, held his breath, and hit the button. The software sent his info into the Canada Revenue Agency and a few weeks later they confirmed it. Both Jim and his wife owed $0 in taxes. 

Unfortunately for Jim, 2023 won’t be quite as generous. He booked a capital gain selling his Shaw Communications shares when the company was acquired by Rogers, so he’ll have to pay some taxes this year. Shaw was acquired for $40.50 per share and Jim was first buying when the stock was in single digits, so it wasn’t such a bad outcome for him.

The gist of Jim’s plan is ridiculously simple. He invested as much as possible in Canadian dividend stocks and used his RRSP and TFSA to invest in other types of assets. 

I won’t spend much time explaining how Jim’s strategy impacted his cash account. Since he knew he’d have to pay taxes there no matter what, he simply allocated that capital towards Canadian dividend stocks.

He then used his RRSP and TFSA to hold other assets. For instance, Jim saw what he viewed as bargains in the United States in the early 2010s. Combine that with Canada’s then-strong currency, and Jim decided it was time to load up on U.S. assets. He bought solid dividend-paying blue chip stocks like Coca-Cola, Walmart, and Realty Income. He eventually diversified into Apple and Altria. Ever mindful of the tax implications, Jim purchased these assets inside RRSPs.

Jim also owns a few REITs, which aren’t subject to the dividend tax credit. REITs pay distributions, not dividends, so they’re a slightly different animal. To ensure the REITs he held didn’t screw up his well-laid dividend plans, Jim simply held those investments inside his RRSP and TFSA.

That’s really all it took — just a few minutes of thinking before wanting to buy a particular stock. Jim isn’t a tax expert either — he’s doing his taxes each year on Turbo Tax just like the next guy. All he really needed was a good understanding of the basics, which he got from that accountant so many years ago, and a solid strategy, and it worked.

Since the bulk of Jim’s portfolio is in dividend growth stocks, his portfolio income keeps growing. He retired on $120,000 per year in dividends; these days the portfolio generates more than $130,000 in passive income. That’s split evenly between him and his wife, so each earn around $65,000 in passive income. Approximately $45,000 each comes from taxable accounts, $15,000 from RRSPs, and $5,000 from TFSAs.

At this point, Jim isn’t withdrawing anything from his RRSPs, but he will likely start soon. It’s a bit of a dilemma for him — should he withdraw today and pay the taxes or wait 20 years and pay the taxes then. It seems like a no-brainer but Jim greatly values the option to defer taxes. He’s happy to enjoy 15-20 years of very low taxes in exchange for paying more taxes later.

Jim’s strategy — just like mine — is to play around with tax calculators in December, figure out the optimal RRSP withdrawal strategy, and then execute.

The “flaw” in the plan

The naysayers always show up whenever I discuss the whole “no taxes via dividends” strategy.

The main thrust of their argument goes something like this. Jim is an illusion, a freak that doesn’t exist in the real world. Nobody ends up only collecting dividends in retirement. They end up with some other source of income — primarily CPP or OAS.

Jim, of course, has thought about these arguments, and he’s certainly well aware of CPP after paying both the employer and employee’s half of CPP for decades. He specifically wanted to talk about this topic, so I’ll let him weigh in:

“What these negative guys miss is even when I’m 65 and I start collecting CPP and OAS, the strategy is still incredibly tax friendly. And since my income is well under the OAS clawback amount, I’m in good shape there, too.”

“Put it into a tax calculator if you don’t believe me. Combine average CPP, OAS, and my dividend income, and see how much I’ll pay in taxes. It’s bugger all.”

He’s right, folks. The calculator doesn’t lie.

From the always excellent

Assuming everything grows in pace with inflation and the rules don’t change, Jim’s tax rate when he’s 65 will be a measly 4.7%. Remember, Jim’s in Alberta; he’d be in even better shape if he lived in Ontario or B.C.

I will give the naysayers one bit of credit. The plan of paying $0 in taxes really only works if you retire before 65. It’s pretty much impossible once you start collecting CPP. At that point it morphs into a plan where you pay very low taxes, which is still pretty good to me.

*Note: anything written above does not constitute any tax advice or recommendation. Neither Jim nor I are tax accountants — we’re enthusiastic amateurs who may have gotten some of the details wrong.  

What I wrote this week

Let’s start off this week’s edition with my latest over at Seeking Alpha, where I wrote about the safety of BCE’s dividend.

Over on the paid newsletter. I look a unique look at Power Corporation, a boring dividend stalwart with a really exciting Fintech arm. I outline how an investment in the company gives you exposure to pretty solid financial assets with that fintech arm thrown in for free. In a world where a lot of fancy tech stocks trade at 50 or 100x earnings, I like free.

I also wrote my usual weekly roundup on Friday, going into things like recent earnings from little-known dividend stocks Information Services Corp and First National Financial, plus some details on a new stock I bought for my portfolio.

If you’re looking for in-depth research on under-the-radar dividend stocks, check out the premium edition of the CDI Newsletter. I do the analysis so you don’t have to. Only $150/per year. Upgrade now!