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Bryan Hubbell

Tax Principal at Manning Elliott Abbotsford
May 2, 2024

CRA Capital Gains Inclusion Rate 2024 Adjustment

Federal Budget 2024 announced that beginning June 25, 2024, the CRA will be increasing the Capital Gains Inclusion Rate from 50% to 2/3.

For capital gains realized on or after June 25, 2024:

  • Individuals will benefit from the 50% inclusion rate on the first $250,000 of capital gains yearly (trusts excluded). Capital gains in excess of $250,000 will be subject to the 2/3 inclusion rate.
  • Corporations and trusts will be subject to the 2/3 capital gains tax inclusion rate for all capital gains.

Capital gains realized by individuals, corporations or trusts before June 25, 2024, will still benefit from the 50% inclusion rate.

A chart illustrating the impact of the capital gains inclusion rate 2024 adjustment on individuals, trusts, and corporations is included at the end of this blog.

Below we discuss the impacts of the capitals gains inclusion rate increase that taxpayers should be aware of.

Considerations of Note for Capital Gains Inclusion Rate 2024

Large Capital Gains

While the stated goal in Federal Budget 2024 is to target wealthy Canadians, ordinary middle-income Canadians will also face higher taxes on large one-time capital gains in excess of $250,000.

These types of large capital gains can arise in cases such as the deemed disposition of assets on death, or the sale of a vacation home or rental property that does not qualify for the principal residence exemption. 

Replacement Property Rules

The Income Tax Act (“ITA”) allows taxpayers meeting certain criteria to defer all or a portion of capital gains resulting from the sale of a business property where a replacement property is purchased within a certain timeframe before or after the disposition.

Suppose a taxpayer elects under this provision for a sale before June 25, 2024. In that case, the taxpayer will be subject to the 2/3 inclusion rate, when the replacement property is later sold.

Although this result is unfortunate, and can ultimately result in higher future taxes, using the replacement property rules may still be worthwhile as funds that would otherwise be used to pay tax on the sale have been reinvested in the business.

Employee Stock options

When an employee purchases shares of their employer through a stock option plan they receive a taxable benefit to the extent the market value of the stock acquired exceeds the amount paid by the employee to acquire the stock. In certain cases, the taxable benefit can be deferred until the stock is sold.

Where certain conditions are met, taxpayers can claim the employee stock option deduction, which results in employee stock options being taxed in a manner similar to capital gains.

The 2024 budget sets out that taxpayers claiming the employee stock option deduction will be entitled to a deduction of one-half the stock option benefit on a combined limit of $250,000 for both employee stock options and capital gains. The employee stock option deduction on the taxable benefit in excess of this combined limit will be limited to one-third the employee stock option benefit.

The taxable benefit on stock options issued by a Canadian-controlled private corporation (“CCPC”) is generally not included in an employee’s income until the time the stock is sold rather than when the options are exercised.

As the stock option deduction will be reduced after June 25, 2024, to reflect the change in the capital gains inclusion rate, higher taxes may be payable on CCPC stock options where the shares have been acquired before June 25, 2024 but sold after that date.

Employees wanting to lock in the 50% employee stock option deduction should consider the tax consequences of triggering tax on the stock option benefit early. In certain cases, the shares have to be held for at least two years for an employee to access the stock option deduction

Effect on Trust’s Flow-Through of Gains

As noted above, trusts will be subject to an inclusion rate capital gains tax of 2/3. However, if trusts distribute their capital gains to individual beneficiaries, it appears the capital gains will be subject to the 50% inclusion rate so long as each beneficiary’s total capital gains for the year are $250,000 or less.

Subject to the release of draft legislation, trusts may wish to distribute their capital gains wherever possible to allow beneficiaries to benefit from the 50% inclusion rate on the first $250,000 of capital gains. As most trusts are taxed at the highest marginal rate, this measure disproportionately affects these entities. 

Graduated Rate Estates & Qualified Disability Trusts

Graduated rate estates and qualified disability trusts generally receive preferential tax treatment and are taxed much like individuals.

Subject to the release of draft legislation it is not known whether these types of trusts will be able to benefit from the 50% capital gains inclusion rate on the first $250,000 of annual capital gains. This may adversely affect estates and trusts set up for disabled beneficiaries.

Alter Ego, Joint Partner & Spousal Trusts

Alter ego, joint partner, and spousal trusts (also known as “life interest trusts”) are often used in estate planning as Will alternatives and to manage probate fees. The income and capital gains of these types of trusts is often taxed in the hands of the beneficiaries who have contributed property to the trusts.

On the death of the life interest beneficiary, or last surviving life interest beneficiary in the case of a joint partner trust, the trusts are deemed to dispose of their assets at fair market value with any resulting capital gains taxed in the trust.

This could result in capital gains being fully subjected to the 2/3 inclusion rate whereas the first $250,000 of capital gains would benefit from the 50% inclusion rate if the assets were held personally.

Capital Gains Reserve

One issue to consider is how this change will affect the capital gains reserve.

Where a taxpayer receives consideration from a sale over a number of years, they may be able to claim a capital gains reserve, which will reduce the capital gains reported in a given year based on a formula.

The reserve claimed in one year is included in income in the following year. These rules are intended to reasonably match the timing of a taxpayer’s tax liability with receipt of the sale proceeds.

Absent a change to the ITA, the inclusion rate applicable to a capital gain included in income will be the prevailing rate for that year. Capital gains reserves taken in 2023 will generally be taxable in 2024 as pre-June 25, 2024 dispositions, meaning they will benefit from a 50% inclusion rate.

However, a capital gains reserve claimed in 2024 will be subject to the 2/3 inclusion rate in 2025, unless the taxpayer is an individual with less than $250,000 of capital gains in the year.

For example, if a taxpayer, who is an individual, disposed of property during 2023 with the proceeds paid evenly over 5 years, the taxpayer will be able to have the capital gain taxed over five years through the use of capital gains reserves.

Capital gains taxed in 2023 and 2024 will qualify for the 50% inclusion rate, while only the first $250,000 of capital gains in 2025, 2026 and 2027 will benefit from the 50% inclusion rate with all other capital gains subject to the 2/3 inclusion rate.

Where the capital gains reserve can be taken, and capital gains are greater than $250,000, taxpayers might consider foregoing all or a portion of the capital gains reserve in 2024 to maximize capital gains taxed at the 50% inclusion rate.

Impacts of Lifetime Capital Gains Exemption (“LCGE”) Increase

For qualifying dispositions on or after June 25, 2024, the LCGE will be increased to $1,250,000, or by 23%. Starting in 2026, the amount of the LCGE will be indexed to inflation. This change will allow taxpayers to dispose of qualified small business shares and qualified farm or fishing property to shelter a larger portion of the capital gain from tax.

As a result of the increase in the LCGE, individuals with eligible capital gains of less than $2,250,000 may pay less tax on sales after June 25, 2024, even with the increase in the capital gains inclusion rate. Individuals planning the sale of eligible property should consider the impact of the increase in the LCGE on the timing of their transaction.

Individuals who complete sale transactions before June 25, 2024, will not be able to use the capital gains reserve to access the additional LCGE. The applicable LCGE limit is frozen in the year the original disposition occurs. However, as discussed previously, the inclusion rate applying to deferred capital gains is not locked and is the inclusion rate of whichever year the capital gain is included in the taxpayer’s income.

Tax Planning Considerations

Taxpayers may want to accelerate sales, so they complete before June 25, 2024 to lock in the 50% CRA capital gains inclusion rate. If sales cannot be completed prior to that date, taxpayers may consider transactions to crystallize capital gains to lock in the 50% inclusion rate. However, before doing so, there are various factors to consider.

Liquidity

Transactions to lock in the capital gains inclusion rate will usually result in the payment of tax. The expected tax liability should be calculated, and taxpayers should ensure the funds are available for the payment of the taxes, especially in cases where a sale is not expected in the near future.

The relationship between the expected sale date and the tax payable date should be carefully considered. If sale proceeds are received after an early triggered gain, but before the taxes payable date, financing the related taxes shouldn’t pose as great an issue.

Time

Time is another factor to consider. Although taxpayers may avoid higher future taxes by triggering capital gains early, the taxes, which may be significant, must be paid now. Taxpayers should consider whether the funds needed to pay the tax would provide a better return if left invested in the business or invested elsewhere.

General Anti-Avoidance Rule (“GAAR”)

Effective January 1, 2024, the cases in which the GAAR may apply has been expanded. Taxpayers should consider whether the GAAR may apply to any planning being considered.  

Appendix I 

You might also like: 

Key Highlights from Federal Budget 2024: What You Need to Know

Choosing When to Defer Capital Gains Tax

Alter Ego and Joint Partner Trusts: Effective Substitutes for Estate & Will Planning

Accessing the Lifetime Capital Gains Exemption

 


Still Have Questions About Capital Gains Inclusion Rate 2024?

If you still need clarification on the 2024 capital gains inclusion rate tax changes, please contact our Manning Elliott tax advisors. Check out our recent post entitled, Key Highlights from Federal Budget 2024.

Manning Elliott LLP posts new blog articles regularly with up to date information on taxation changes by the federal and provincial governments.

 

NOTE: Federal and provincial tax laws are complex and are subject to frequent changes. Information contained in this Manning Elliott blog is not intended to represent legal or tax advice. Please consult with your tax adviser before employing any strategies based on the information discussed within this article.