Understanding capital gains and tax-loss selling

In the twenty-twenty-four federal budget, the Government of Canada proposed changes to the rules surrounding the capital gains inclusion rate which, if enacted, would apply to capital gains realized beginning on June 25, 2024.

A capital gain or loss is generally the difference between what an investment held as capital property is sold at, minus reasonable commissions and costs to sell it, and what it was bought for, plus reasonable costs incurred to purchase it.

For individuals, the Government proposed that the capital gains inclusion rate -or the percentage of the capital gain that is included in taxable income– remain at 50% for capital gains realized annually UP TO $250,000 and increase to 2/3rds, or approximately 66.67%, on capital gains realized annually ABOVE $250,000.

So, let’s say, you have a capital gain of $300,000 from selling stocks (and there is no adjustment to the $250,000 threshold).

Your gains up to $250,000 are then multiplied by .50 - or 50% – totaling $125,000.

The remaining $50,000 is then multiplied by .667%, totaling $33,335

You then combine $125,000 with $33,335 for a total of $158,335. This is the portion of your capital gains which is added to your income and taxed at your marginal tax rate.

According to the draft legislation, this means that the 2024 tax year will be a transition year and subject to special rules. The legislation proposes that it will be divided into two periods.

• January 1 to June 24, and
• June 25 to December 31,

Capital gains realized in the first period will generally be taxed at 50% of your marginal tax rate, even if the total gains are over $250,000.

Capital gains realized in the second period will generally be taxed at 50% of your marginal tax rate up to $250,000 (for individuals) and then capital gains over this threshold may be taxed at 2/3rds of your marginal tax rate.

Special rules apply in certain circumstances, such as where you have capital gains in one period and capital losses in another.

If you have questions about the proposed Capital Gains inclusion rate changes, speak with a tax professional and an Edward Jones Financial Advisor, who can help you with strategies to minimize your tax burden, like Tax-Loss Harvesting. 

What is tax loss harvesting?

Tax-loss harvesting is also referred to as tax-loss selling because it is a tax-minimization strategy that involves selling an investment that has decreased in value – realizing a Capital Loss -- to offset a realized capital gain.

For example, if you sell an investment this year with a ten-thousand-dollar capital gain, you may be able to sell another investment that has decreased in value to offset some or all of the tax on this gain.

If your realized capital losses are greater than your capital gains in a particular year, you can generally carry the excess net capital losses back by claiming them for previous years – up to 3 years – to offset prior year's capital gains. Or carry the net capital losses forward indefinitely to offset future capital gains.

Such carry-backs or carry-forwards are subject to certain limitations, including that capital losses cannot be used to offset other types of earned income. Transitional rules apply to carrybacks and carry forwards under the proposed amendments to affect the capital gains rate increase.

To apply a capital loss to a different year, it's best to speak with a tax professional to understand the process and requirements.

What are some of the restrictions of tax-loss harvesting?

It's important to keep in mind that Tax-Loss Harvesting comes with restrictions.

For instance, any capital losses triggered in the current year must be used to first offset any capital gains realized in the same year before carrying any remaining realized capital loss back or forward.

Also, the Income Tax Act does not permit ‘superficial losses', meaning, you generally cannot sell an investment and realize a loss if you or an “affiliated person” (such as your spouse) buys the same or remarkably similar property in the 30 calendar days before or after the sale.

Are there strategies to manage restrictions?

To manage these restrictions, you can sell investments and wait more than 30 days following the settlement date before you or an affiliated person re-purchase, or you can substitute an investment that provides similar exposure. However, there are risks to this approach, so, speak with your tax professional before enacting this strategy.

In summary, capital gains are generally realized when you sell an asset for more than you bought it. Conversely, capital losses are generally realized when you sell an investment for less than you bought it.

Tax-loss harvesting is a strategy whereby you deduct your capital losses from your capital gains to mitigate the amount of tax you have to pay. Rules and restrictions apply to the use of tax-loss harvesting as a strategy.

Proposed changes by the government of Canada effectively increase the inclusion rate for capital gains for individuals with capital gains over the up to $250,000 threshold starting June 25, 2024. However, the final legislation regarding this change has yet to pass parliament.

If you are considering tax-loss harvesting as a strategy to mitigate your tax burden, you should talk to an Edward Jones advisor and your tax professional to understand how this strategy may impact your particular situation.

What are capital gains?

When you sell or redeem an investment you hold as capital property, this can result in a capital gain or loss. Simply put, the gain or loss is generally the difference between the proceeds from the sale and your adjusted cost base (generally the total original purchase price of a security). Plus reasonable expenses, such as commissions, to acquire it, averaged across identical securities) and reasonable costs of disposition.¹

A capital gain represents the increase in value of an investment such as stock, mutual fund, or exchange traded fund, and a capital gain is when the investment is sold at that higher value, locking in the gain.

What are capital losses?

A capital loss represents the decrease in value of an investment such a stock mutual fund, or exchange traded fund, and a realized capital loss may be realized when the investment is sold at that lower value, locking in the loss.

Tax on net capital gains and losses

Net capital gains or losses for a tax year are generally determined by subtracting the losses from the gains. For example, if you realized $2,000 in capital gains and $1,000 in capital losses, your net gain is $1,000. If there is a net loss, the loss can be carried backward to offset capital gains in the previous three years, or it can be carried forward indefinitely (subject to certain limitations). Capital losses cannot be used to offset other types of earned income. Capital gains generated inside a TFSA are not subject to tax and capital gains generated inside of an RRSP or other registered account are generally deferred from tax. Capital losses realized in a registered account cannot be used to offset capital gains realized outside such an account. If your total realized capital gains from all sources in the year are below $250,000, 50% of your gain is taxed at your marginal tax rate. For the component of your total realized capital gain above $250,000 in a particular year, 66.67% of the capital gain will be taxed at your marginal tax rate.