Danielle Kubes is a trained journalist and investor who has written about personal finance for the past six years. Her writing has been published in The Globe and Mail, National Post, MoneySense, Vice and RateHub.ca. Danielle writes about investing and personal finance for Wealthsimple. She has a Bachelor of Humanities from Carleton University and a Master of Journalism from Ryerson University.
The capital gains tax is a way for the CRA to collect revenue on the profit you make from investments. Because the government wants to encourage you to invest your money into businesses and help grow the economy they offer an incentive: they will only tax half the profit. So if you made $10,000 through selling Enbridge shares, for example, you are only taxed on $5000.
Effectively, that means you’re paying half your marginal rate on investment income compared to employment income. It’s a pretty good deal! But it can still significantly eat into your return.
Fortunately, there are ways to avoid paying capital gains tax in Canada.Easy, fast, and even fun. Wealthsimple Tax is CRA-certified tax software that you’ll actually want to use. And you only pay what you want, no catch — get started.
Completely legal, these methods mainly employ sheltering and offsetting to reduce your tax burden. It goes without saying that you should only stick with legitimate options or else you could have the CRA banging down your door.
6 Ways to Avoid Capital Gains Tax in Canada
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Tax shelters act like an umbrella that shields your investments. As long as your investments remain inside a tax-shelter they are left to flourish duty-free. You can buy and sell stocks at your leisure with no tax consequences. (Of course, that also means you don’t get to write off capital losses.)
An RRSP is one of the most popular tax-shelters in Canada. You don’t pay any capital gains on any profit you make inside this account. When you withdraw funds you will be taxed at your full marginal rate because you did not pay tax on your income when you contributed.
A TFSA functions similar to an RRSP when it comes to protecting against capital gains. Whatever profit you make from buying and selling within a TFSA will be yours to keep in its entirety. But the TFSA is superior to the RRSP if you’re a serious investor with a long-term time horizon. That’s because you can withdraw any amount scot-free since you already paid tax on your contributions. As a general rule, the CRA doesn’t tax the same money twice. That means if you contribute about $6,000 annually with after-tax dollars, and invest that money over 30-50 until it grows to $1 million (totally possible, by the way, especially when you’re not paying capital gains tax!) then you can withdraw that $1 million completely tax-free.
An RESP is another tax-shelter in which you can avoid capital gains tax. Since you plan to use that money in a short-to-medium term horizon, for your child’s education, you’ll likely want to invest in low to medium risk securities. Your child will pay tax on the withdrawals but since their income is likely going to be very low the rate will be minimal. You’ll have to close down the account in the 35th year after you opened it.
Offset capital losses
You win some, you lose some. That’s the theory behind offsetting capital gains with losses. If, in the same year, you earn a $1,000 profit from selling ABC stock, but lose $1,000 off selling XYZ stock then your profit is effectively zero – the win and loss cancel each other out. You won’t have to pay any capital gain tax. Or let’s say you earn a $1,000 profit but lose $500. You offset the loss against the gain for a total gain of just $500, on which only $250 you pay tax, at your marginal rate. Or let’s say this is a year where you only have losses. If so, you can carry your losses forward or backward to apply them to different years.
You can carry them backward up to three years to offset any gains for a tax refund, or carry them forward indefinitely and accumulate them. There are even some instances where you can claim your capital losses against other kinds of income, but you should consult a qualified accountant to discuss this strategy.
Note that in order to properly offset capital losses it has to be a real loss—you can’t just sell a stock and re-buy it within a month. You also can’t sell a stock and tell your spouse to buy it. That’s considered a “superficial loss” and the CRA won’t be pleased.
There is, however, a rather clever way to work around this. It’s a strategy called “tax-loss harvesting” whereby you purposely sell an investment that has decreased in value while purchasing a similar (but not identical) investment. So let’s say you really believe in the cannabis sector. You buy shares in a cannabis company at $1,000 but it dropped to $500. You sell the stock, claim the $500 loss, and then immediately purchase a different weed stock or ETF. Therefore you’re reducing your tax burden but still potentially capturing gains in a sector you’re confident will go up.
Defer capital gains
You can defer paying capital gains tax for your shares only when you got them from a spouse or parent due to death or divorce. So if your spouse bought 100 shares of ABC stock and then transfers them to you in the divorce neither of you will have to pay capital gains tax on it at that time. Capital gains tax will only have to be paid once you (the new owner) sells them. The profit or loss is calculated from the value at the time your spouse/parent purchased them, not when they gave them to you.
Lifetime capital gain exemption
The Lifetime Capital Gains Exemption applies to some small business owners, when they sell private qualifying shares, and farm and fishery property. In 2019, the lifetime exemption was $866,912. The rules for this are complex so consult a qualified tax professional. There is no Lifetime Capital Gains Exemption for stocks.
Donate your shares to charity
Instead of donating cash to charity, why not donate your shares? It’s a very tax-efficient way of doing good. Not only is the “profit” from the shares considered zero but you actually get a donation tax credit based on the market value of the shares at that time.
Capital gain reserve
It may be possible to spread the proceeds of a capital property sale over five years. Because Canada has a progressive tax system we are taxed more for every additional dollar we make. If you sell a capital property, like an investment condo to your children, for example, for a profit of $250,000 your marginal tax rate would be a full 43.41% in Ontario, according to this free online tax calculator. .But if you manage to spread that gain out over five years, for $50,000 per year, your marginal tax rate tops out at 20.05%, allowing you to keep more money in your pocket. This means the buyer has to actually spread out their payments to you over that time so there is a risk the buyer could default on their promise. It may be possible to spread out the gain over 10 years if you’re transferring certain kinds of property, like a family farm, to your children or grandchildren.
The future of capital gains tax
Canada’s deficit has ballooned during the Covid-19 pandemic as the government has borrowed close to $225 billion to pay for emergency benefits. Many experts speculate that in order to pay back this enormous sum the government will begin to raise taxes. These experts think that the capital gains tax is ripe for targeting. The capital gains tax has always been fluid – before 1972 it didn’t exist. It then rose to 50% until 1990 when it rose again to 75%. It’s only in the last 20 years, since 2000, that the inclusion rate dropped again to 50%. There’s little stopping the capital gains tax from rising again, especially if the government needs increased revenue to pay its debt. You can see how much more tax you’ll owe if the rates climb by using this free online tax calculator.
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