Every year around budget time you will hear the federal finance minister tout Canada’s capital gains tax as a key fiscal tool – a tax on the appreciated value of assets that, because of its favourable rate, provides Canadians with an incentive to invest their money and make it grow.
And that’s somewhat true – capital gains are taxed at a more favourable rate than income – half your marginal rate.
In truth, capital gains taxes are moot points for most Canadians, as most people hold their investments in tax-exempt vehicles such as RRSPs or TFSAs. Nevertheless, capital gains tax affect people’s financial futures, and it’s worth taking a look at some key points about these tax provisions.
Real Estate: Homes, Cottage and Investment Properties
People investing in real estate must understand capital gains laws.
Principal Residence Exemption (PRE) – Your principal residence is exempt from capital gains tax. For many Canadians, the discussion stops right there. Nevertheless, many people own cottages, buy investment properties, rent portions of their homes to tenants, buy holiday homes outside Canada, or buy houses to “flip” and make a profit on the sale. There are tax considerations for each of those actions.
Purchasing Investment Property – Many people purchase real estate as investments, as those condos, homes and other properties appreciate in value, those increase sales prices will be taxed at half your marginal rate.
Renting Your Home to Tenants — If you rent part of your home such as your basement as an apartment, you could lose your principal residence exemption, but only where you rent more than 50% of your home.
“Flipping” Houses – If flipping houses is your business, then the CRA counts this as business income, not capital gains.
International Property – The capital gains taxes also apply to property held outside Canada. One way to avoid the tax is to put the property into a trust so that the property is owned by the trust and not the individual. Establishing a trust is a discussion that should be held with an expert and we have professionals who can help you in this regard.
Gifting Assets to Others
People often ask about “gifting” property such as cottages or holiday properties to their family members as a tax-free way of transferring ownership. Not so fast.
There are tax implications of gifting property. If a parent gifts a property to an adult child, and the property does not fall within the principal residence exemption, then the CRA considers this a transfer of ownership at fair market value, with tax implications for the gifter. Plus, if the recipient eventually sells the property, and the sale price is above the price of inheritance, then the capital gains tax applies (assuming the principal residence does not apply). For the recipient, the cost base is the Fair Market Value (FMV) at the time of the gift.
Offsetting Capital Gains with Capital Losses
One way to reduce capital gains is capital losses. Please note the ways that capital losses can be carried:
- Capital losses can be carried back to any of the 3 preceding taxation years.
- Capital losses can also be carried forward indefinitely
This is another area where consultation with an experienced expert can help.
Estate Planning and Taxation Upon Death
It’s the old joke about death and taxes – yes, capital gains tax can even apply when you’re dead. Of course, some assets are exempt – those in RRSP, RRIFs or those transferred to a surviving spouse.
For others assets, the income tax law considers that you have “sold” your assets at the moment of your death. The “sale” proceeds is assumed to be the Fair Market Value (FMV), and while you still own those assets, you now owe tax on them. Any proceeds above the cost is a capital gain of which 50 percent is taxed.
Capital Gains are Complex
Capital gains continue to be a complex area and for most returns you will need an experienced, professional expert to guide you through the most recent tax law. Our experts are available to discuss your particular needs.
Are capital gains on your radar as part of your long-term financial strategy?
Have tax-exempt vehicles such as RRSPs and TFSAs made capital gains tax a moot point for you?