Manage capital gains tax changes as year-end approaches

Meanwhile, incorporated clients may decide to withdraw income from their businesses, have it taxed personally, and invest the funds to benefit from the $250,000 exemption — or have income taxed at favourable corporate rates and invest the remainder within the corporation.

Whatever the scenario, you should connect with clients’ accountants to ensure tax planning is implemented correctly, particularly in a year featuring two different capital gains tax regimes, said Joseph Bakish, portfolio manager and investment advisor with Richardson Wealth Ltd.in Pointe-Claire, Que.

You also should reassure clients that their existing plan continues to make sense under the new capital gains tax regime or suggest how an adjusted plan could help mitigate the higher CGIR. As well, ensure clients are not lost in the details surrounding the CGIR changes, Bakish said.

“[Clients] are not tax experts, typically,” he said. “By closing the loop with [clients’] tax professionals, you can give the investor confidence to proceed with the recommended strategy.”

In the 2024 budget, the federal government announced it was hiking the CGIR to 66.7% on gains earned by corporations and trusts, effective June 25. Individuals would also be subject to the two-thirds CGIR but could continue to access the 50% CGIR on annual gains under $250,000. (For 2024, an individual can access the full exemption amount for the period June 25–Dec. 31.)

While the government included draft legislation to implement the CGIR in a notice of ways and means motion tabled Sept. 23, the CGIR changes were not law as of early October. Nevertheless, many advisors said they were advising clients based on the assumption that the changes would become law before the end of the year.

If the government were to fall without passing CGIR legislation, “[it] might create a ton of anger” among investors who sold assets before June 25, perhaps earlier than they had otherwise planned, to take advantage of the lower rate, Bakish said.

When discussing the CGIR hike, you should remind clients that capital gains are subject to tax only when an appreciated asset is sold, said Wilmot George, vice-president and team lead of tax, retirement and estate planning with CI Global Asset Management in Toronto.

“It’s a very simple point, but it can be overlooked by clients,” George said. “You can buy and hold and generate capital gains over time without being subject to the [CGIR].”

However, high-net-worth clients might consider strategically triggering gains to take advantage of the lower CGIR, reducing the amount of gain that could be exposed to the higher CGIR in a future year when an asset with a significant embedded gain is sold or on the deemed disposition of property at death.

When deciding whether to sell property this year, clients will have to consider their current marginal tax rate versus what they expect it will be in future years, how long they expect to hold an investment and the investment’s potential rate of return, among other factors, said Peter Bowen, vice-president of tax and retirement research with Fidelity Canada in Toronto.

You and your clients should also review portfolios to identify investments that can be sold to generate capital losses, thus offsetting gains that might otherwise be subject to the higher CGIR, Bowen said.

“The tax savings resulting from tax loss harvesting can be even greater” than before the hike in the CGIR, Bowen said, adding you and your clients should continue to be mindful of the superficial loss rules.

Jason Heath, managing director with Objective Financial Partners in Markham, Ont., said he expects that some clients who own rental or vacation properties are confronting the dilemma of whether to retain or sell a property in an uncertain market, potentially triggering gains subject to the higher CGIR.

With real estate, “you can’t just sell a brick. You’ve got to sell the [whole] thing,” Heath said.

In some cases, a seller may be able to claim a capital gains reserve on a property’s sale if the deal’s terms provide for deferred payment. Someone who doesn’t receive all the proceeds from the sale of property in the year of sale may use the capital gains reserve to defer the tax associated with the gain over as many as five years (10 years for certain kinds of property).

Claiming a reserve may allow more of the capital gains associated with the sale to be taxed at the lower CGIR over time, George said.

As year-end approaches, clients may also consider making in-kind donations of appreciated publicly traded securities. For high-net-worth clients with gains above $250,000 in a year, the strategy is “very attractive,” Bowen said. “We don’t have to pay the tax on the capital gain, and we still get our charitable donation receipt to use on our personal tax return.”

Heath expects that small-business owners who had previously favoured investing in their corporations may now choose to withdraw income from their corporations to invest personally.

“Even prior to [the CGIR] change, there was generally an advantage for a business owner to take money out of their corporation and contribute to their TFSA and their RRSP, for example,” Heath said. “But I think that [the hike in CGIR] tilts things even more in favour of not forgoing personal tax shelters in order to build up corporate investments.”

Jamie Golombek, managing director of tax and estate planning with CIBC Private Wealth in Toronto, suggested in an Oct. 2 report that some clients may be better off continuing to invest in their corporations rather than withdrawing income and investing personally. Business income earned and taxed in a corporation is subject to favourable tax rates, leaving more money for the business owner to invest.

“Even though the integrated tax rate for corporate capital gains is quite a bit higher than the top tax on personal capital gains that are only one-half taxed (below $250,000), the extra corporate investment income more than outweighs the higher corporate tax,” Golombek said.

Clients considering whether to invest income in their corporations or withdraw the money to invest personally will want to factor in their current and projected marginal tax rates, whether income earned in the corporation is subject to the small-business or general tax rate, and whether the business owner can split income by paying dividends to a family member, among other factors.

This article appears in the October issue of Investment Executive. Subscribe to the print edition, read the digital edition or read the articles online.