For buy and hold dividend-paying stock investors like ourselves, Canadian banks have traditionally been safe bets in terms of continuing to provide a steadily increasing source of income. Dating back to the period after the Great Depression, the banks in general have shied away from cutting their dividends despite numerous recessions and economic downturns. In fact over the past several decades, all 5 “big banks” plus National Bank have consistently raised their dividends annually, just like clockwork.
The COVID19 pandemic brought on a good news/bad news situation, depending on your perspective. The good news is that despite enduring over 1.5 years of lockdowns, job losses and business closures that brought instability and uncertainty to the economy, none of the banks cut their dividends. The bad news is that during this same timeframe, the OFSI (Canada’s banking watchdog) has prevented the banks from increasing their dividends in order to ensure the financial health of the banking system. This has continued despite the banks all generating better than expected profits and accumulating huge levels of excess capital.
Now with the lockdowns coming to an end across the country and the economy rebounding, investors are anxiously awaiting the easing of these restrictions on the banks, although the possibility of the Delta variant triggering a dreaded fourth wave and another lockdown may put a damper to these hopes. Dividend declarations for the banks have already been made for the first 3 quarters of 2021 without any dividend raises. The 4th quarter dividend declarations for each of the banks should occur around the end of August, with Ex-Dates (the date before which you need buy a stock in order to qualify for the upcoming dividend payout) ranging between end of September to end of October, and the payout dates from October to November. This will be the last chance for the banks to increase their dividends for 2021, and if they do come, the payouts are likely be larger than normal to make up for the missed increases of the past two years.
If and when banks are allowed to resume their raising of dividend payouts, it will be interesting to see how they do it. There have been talks of increases in the range of 13-20%, when prior to COVID, the annual increases were around 3%. To me, it seems more likely that a huge dividend boost would be paid out as a one-time special payout rather than a straight dividend raise. As history has shown, once a bank raises its dividend, it does not decrease it again, come hell or high water or even pandemic. If the banks raised their dividends by double-digits, future raises would compound upon this. Giving out a special dividend to reduce the excess coffers, on top of the normal 3% raise, seems much more reasonable and sustainable. Regardless of how it is done, there seems to be a large (but potentially one-time) increase in income coming our way, since we hold stock in all 5 big banks plus National Bank.
This leads to an interesting quandary for us with regards to our annual RRIF withdrawals, our taxable income for the year, and the resultant tax bracket that we will end up in. In a normal year, we can come pretty close to predicting what our net income will be, since our income consists of the dividends paid out from our non-registered account (which we split equally), plus the annual mandated withdrawal that we make from our individual RRIF accounts. We can roughly guess what the dividend payout from the non-registered will be by assuming a small increase fueled mostly by the dependable dividend-raising stalwarts that we own, including banks, telco, and railways.
We usually withdraw more than the government-mandated annual minimum from our RRIFs since our goal is to reduce the size of our RRIFs by the time we are 70 to minimize Old Age Security (OAS) claw-back. Balanced against this goal is the need to keep our taxable income below the higher tax brackets in order to keep our income tax owed at a reasonable level. By deciding which tax bracket we want to stay within, we can work backwards to determine how much we can withdraw from our RRIFs. I use the previous year’s StudioTax online tax program to help make this determination.
In the past we would usually do this calculation at the beginning of a new year and make an early RRIF withdrawal. Since our early retirement in 2012, we have been taking out stock-in-kind from our RRIFs as opposed to cash, continually increasing the dividend income coming from our non-registered account. Having done this for almost 10 years, we are now in a position to fund all normal expenses just from that dividend income. Now the annual RRIF withdrawals just act as further on-going “boosts” to that income to help combat inflation. The earlier in the year we make the RRIF withdrawal, the sooner we can start adding the additional dividend payouts to our income for the year.
This year, knowing that the dividend flood-gates may be unleashed, we only took out the government-mandated minimum for our RRIF withdrawals. As we have done the previous 3 quarters, we will wait for the 4th quarter dividend declarations by the banks before determining whether we should make a second RRIF withdrawal and if so, how much. If the bank dividend increases are declared, we can recalculate the projected income that our non-registered account will produce. Doing so will protect us from taking too much out from our RRIFs and inadvertently bumping us into higher tax brackets.
If the restrictions on the banks continue through this next round of dividend declarations, then we will know that no raises will come this year. But sooner or later, they will come, so we would take the same precautions next year. Not exactly a bad “problem” to have!