In my column yesterday for Canadian Business Online, Tax harvesting and RRSPs, I looked at how tax-loss harvesting and RRSP contributions can backfire if the government raises tax rates in subsequent periods. And given the huge deficits governments are now saddled with, it wouldnt be a big surprise if tax rates are higher a few years from now.
In the example I gave, the government increased the tax rate on capital gains for the hypothetical investor from 30% to 50%. The extra 20% tax paid when investment funds are withdrawn left the investor worse off than if they had not created tax losses or made RRSP contributions.
A point to add to the column is that the increase in tax rates need not occur though changes in statutory tax brackets. Governments often take the easy way out and have the central bank finance its operations by printing money, which can end up imposing the hidden tax of inflation. Acceleration ininflation can adversely affect the utility of tax deferral schemes as well.
Yet another point to add: the government isnt always the culprit. Sometimes we have only ourselves to blame. Many people will claim tax losses and make RRSP contributions early in their career at the lower tax brackets but later end uppayingthe deferred tax back at higher rates because their career or retirement income has reached the higher tax brackets.