Investing is a powerful strategy for wealth accumulation. Not only can you realize substantial returns, but you can benefit from the favourable treatment of profits under the capital gains tax system. This system not only allows you to retain a larger portion of your earnings but also offers strategies to minimize the amount you owe.
For insights into which investments are subject to this tax and how you can effectively reduce or avoid it, continue reading below.
Key Points
- You can avoid capital gains tax by taking advantage of tax-sheltered accounts, donations, and capital losses.
- Capital gains apply to investments you sell at a profit, including rental properties, stocks & bonds, mutual trust units, business land, buildings, and equipment and non-primary residences like cottages.
- Only 50% of your capital gains up to $250,000 are taxable, while 66.7% of gains over $250,000 will be taxed.
- Your taxable capital gains are taxed at your marginal tax rate.
How To Avoid The Capital Gains Tax In Canada?
If reducing or avoiding the capital gains tax can help save you money, it’s best to try. Luckily, there are a few ways that you can do that, including but not limited to:
Reduce Your Capital Gains Tax With A Donation Receipt
One way to minimize the capital gains tax is by donating assets to a worthy cause. For instance, if you donate to a registered charity, you’ll be sent a tax receipt. You can use this to deduct a part of that donation from your income taxes.
However, instead of offering money, you can transfer ownership of the investment in-kind to the organization. Because you’re not selling the asset, you can use your receipt to receive the same kind of tax offset, without it qualifying as a capital gain. You can also achieve this by transferring it to a friend or family member.
Use A TFSA Or RRSP Account
In Canada, there are a few different tax-sheltered accounts that you can open through your bank or other financial institution. The TFSA and RRSP are the more common accounts. Both accounts let you buy and sell stocks with no tax consequences.
How To Use A TFSA To Avoid Capital Gains Tax In Canada
The money you contribute to your Tax-Free Savings Account has already been taxed. This means when you withdraw from your TFSA in the future, you won’t be taxed. This also includes any capital gains you earned buying and selling investments held within your TFSA.
A TFSA has a maximum yearly contribution, for 2024 it’s $7,000. While a TFSA is an effective way to invest and even avoid capital gains tax, you are limited by the contribution room.
How To Use An RRSP To Avoid Capital Gains Tax In Canada
A Registered Retirement Saving Plan (RRSP) is similar to a TFSA, in that any money you earn from buying and selling investments held within your RRSP account won’t be taxed. But, when you withdraw from your RRSP once you retire, that money will be taxed. The tax rate depends on your income. Usually, consumers wait until they are in the lowest tax bracket to withdraw from their RRSPs. That way they pay the lowest amount of taxes.
Carry Your Losses Over To The Next Year
It’s possible that you haven’t made any capital gains in the previous 3 years and you’ve only experienced losses. In that case, it may be better to hold off on selling your asset or investment until the next tax year, when you’ve had a chance to make some profit.
You can use your previous year’s losses to offset your future capital gains.
How To Harvest Your Tax Losses To Avoid Capital Gains Tax In Canada
As mentioned, one of the most common ways to reduce your taxable income and even be exempt from the capital gains tax is to use your losses to offset your gains.
For example, let’s say you made $30,000 in capital gains throughout the year on one investment but lost $15,000 on another. In this case, you could deduct that loss, then divide the remaining $15,000 by 50%. This would leave you with only $7,500 in taxable income for capital gains.
If you have enough capital losses to claim during the year, you may even be able to get your taxable income to zero.
WARNING: WATCH OUT FOR THE SUPERFICIAL LOSS RULE
The CRA is aware that some people plan to buy and sell stocks or property to purposely incur a capital loss. That’s why you may not be allowed to use it to reduce your capital gains tax if you, or a person affiliated with you, buy back the property (or similar property) or stock within 30 days of selling the original asset.
File your taxes with TurboTax
Get StartedWhat’s The Difference Between A Capital Gain And A Capital Loss?
It’s essential to understand what capital gains and losses are to figure out what your capital gains tax obligations are.
Capital Gains
Capital gains happen when the value of your investment goes up and you sell at a profit. This profit qualifies as a “realized gain”, which you must declare to the Canada Revenue Agency (CRA). However, if you don’t sell, the gains will stay “unrealized” and you won’t have to pay taxes on them.
In Canada, 50% of your capital gains up to $250,000 are taxable, and 66.7% of amounts over $250,000 are taxable. That means you would have to add 50% of the first $250,000 in gains, plus 66.7% of any excess gains to your income when you file your taxes.
The amount of tax you end up paying when you sell depends on how much income you make and where it’s coming from.
Types Of Investments You Can Have Capital Gains
The capital gains tax doesn’t apply when you sell your primary residence. It just applies to other real estate you sell. It also applies when you sell:
- Stocks & bonds
- Mutual trust units
- Exchange-traded fund (REIT) shares
- Business land, buildings, and equipment
- Cottages
Capital Losses
These happen when you lose money on an investment after you sell it below what you paid for it. This is called your ‘cost basis’. Luckily, your losses can be applied retroactively for up to 3 years back to pay past tax debt. You can also use them to lower your future capital gains taxes for years to come. In this way, you won’t have to pay as much during tax season.
At the moment, there’s no set limit for how long you can use your losses to offset your gains. As such, be sure to keep your tax records until this rule changes. Even if you haven’t made any capital gains, you still have to report your losses to the CRA.
What Is Canada’s Capital Gains Tax Inclusion Rate?
As mentioned, 50% of capital gains for amounts up to $250,000 is taxed, and 66.7% on gains over $250,000 is taxed.
So, if you manage to sell your investment at a profit, 50% of the additional money you earn up to $250,000 must be added to your regular taxable income. If your profit is in excess of $250,000, 66.7% of earnings above this threshold is taxed.
For instance, let’s say you made a profit of $450,000 upon the sale of a property. The capital gains tax inclusion rate in this example would be as follows:
- 50% of the first $250,000
- 66.7% of the remaining $200,000 ($450,000 – $250,000)
The more valuable your capital gains are when you sell, the more you’ll pay overall when you file your income taxes.
How Do You Calculate Capital Gains Tax In Canada?
To calculate your capital gains tax, you’ll have to start by calculating your investment’s “Adjusted Cost Base” (ACB). The ACB is how much you originally paid for the investment, also known as its book value, plus any fees, interest, additional transactions, or other costs incurred by the time you sell.
To calculate how much taxes you’ll pay, you need to calculate your capital gains amount. Here’s an example of how to calculate the capital gains on the sale of a rental property.
- Taxable Income = Selling Price of Investment – Adjusted Cost Base
| Selling Price of Investment (The amount you sold the property for) | $500,000 |
| Adjusted Cost Base (*ABC) (the total amount you put into purchasing the property) | $450,000 |
| Capital Gains | $50,000 |
| Taxable Gains (capital gains x 50%) | $25,000 |
Note for stocks and bonds: If you’re not sure how much you’ve invested, your financial institution can calculate the full sum for you unless you have a self-directed account.
Your capital gains will then be added to your taxable income and taxed at your marginal tax rate. In the above example, since your capital gains are under $250,000, only 50% of your gains would be subject to taxation.
Use The Capital Gains Tax in Canada To Lower Your Yearly Tax Bill
If you’ve purchased a second home, investment property, or another type of investment, you pay a capital gains tax when you sell it. This can significantly increase the size of your final tax bill. This is especially true if you don’t use any other eligible losses to offset your gains. As such, it’s important to learn which investments are the safest and when the right time to sell them is.
