By Vineel Rajan,
Enacting the current rules for Capital Gains tax changes may require individuals, trusts, and corporations to include more capital gains in their taxable income. Specifically, 66.67 percent of capital gains realized on or after June 25, 2024, for corporations and trusts would need to be included in income for tax – up from 50 percent.
Summary—Canadian Capital Gains Taxes Proposed Legislation
What’s Not Changing
A fair and predictable taxation environment is essential for Canadians planning for retirement and businesses planning to invest in Canada. The government is clarifying that forthcoming legislation and budget 2024 changes to capital gains, excluding:
- Changes to the principal residence exemption. The government maintains the principal residence exemption to ensure Canadians do not pay capital gains taxes when selling their home. Any amount you make when you sell your home will remain tax-free.
- Tax elections or on-paper realizations. The disposition of capital property realizes a capital gain. With limited exceptions, the taxpayer must transfer their interest in the property to another person. The current income tax rules do not permit taxpayers to elect to realize a gain or loss on their property without an actual transfer, and the government does not intend to introduce such an election.
- Individual capital gains averaging over multiple years exceed the $250,000 annual threshold. Under the new rules, Canadians with up to $250,000 in capital gains from January 1 through December 31 of each tax year will not pay any more; individuals will only pay more tax on capital gains above $250,000. Capital gains cannot be averaged over multiple years to stay under the $250,000 annual threshold.
- Splitting the individual $250,000 annual threshold with corporations. Under the new rules, individuals cannot share their $250,000 annual threshold with corporations they own. This is an applicable benefit only to individual taxpayers. Corporations and most trusts must include two-thirds of all their capital gains as taxable income.
- Exemptions for specific assets or corporations. No specific assets or corporations will be exempt from the two-thirds inclusion rate. The two-thirds inclusion rate applies across all sectors, ensuring fairness and preventing preferential tax treatment.
Time-based or other distinctions. No special rules center on how long a taxpayer can hold to one’s asset. The same inclusion rate will apply for all capital gains, regardless of the type of asset or how long one held it before selling.
The Canadian federal government has proposed recent changes to the capital gains inclusion rate in 2025. The changes originate from October 2024, when the federal government proposed to put the new capital gains measures to a confidence vote. To enact these changes and remain, the government requires majority support. With recent changes in the federal government, the stepping down of Prime Minister Justin Trudeau to essentially a caretaker Premier, and the proroguing of the Canadian Parliament until March 2025, there is now uncertainty. Besides the inevitability of a new election and change of government, there could be further changes, additions, or no change to the proposed Capital Gains tax laws in Canada.
The new Capital Gains tax rules are an attempt by the government to make Canada’s tax system fair by making taxation income-neutral. These changes narrow the tax advantage in capital gains and other forms of income, such as pay cheques—that is the aim.
Why the changes?
In Budget 2024, the federal government announced changes to capital gains taxation to make Canada’s tax system even-handed. The Ministry of Finance says that increasing Lifetime Capital Gains Exemption would ensure middle-class entrepreneurs won’t pay more tax because of these changes. The new Canadian Entrepreneurs’ Incentive would encourage entrepreneurs to invest in capital-intensive and high-growth sectors. These changes will make Canada’s tax system fair by making taxation income-neutral. They narrow the tax advantage in capital gains and other forms of income, especially the pay cheques.
The Main Revisions to Capital Gains Taxes
The current rules were first announced in the 2024 federal budget. Individuals, trusts, and corporations may have to include a significant portion of their capital gains in their taxable income if enacted. Specifically, 66.67 percent of capital gains realized on or after June 25, 2024, for corporations and trusts would need to be included in income for tax (up from 50 percent).
The increased rate would only apply to individual taxpayers’ capital gains exceeding $250,000. Capital gains under the $250,000 threshold an individual realizes through a trust or partnership will remain subject to the 50 percent inclusion rate each year. Taxpayers should contact their tax advisor to assess how these proposals might affect them, their trusts, or their corporations.
Introductory Inclusion Rate and $250,000 Threshold for Individuals
The introductory inclusion rate for all capital gains and losses would increase from one-half to two-thirds as of June 25, 2024. Individuals (except in unique types of trusts) would have access to a reduction when calculating their total income that would decrease the inclusion rate applied to their capital gains under the $250,000 threshold from the introductory inclusion rate of two-thirds to one-half. If a capital gain on a disposition of a property with shared ownership by multiple individuals, each individual would have access to their $250,000 threshold.
Deductions for net capital losses
After applying the inclusion rate, the Lifetime Capital Gains Exemption (LCGE), the proposed Employee Ownership Trust Tax Exemption, and the Canadian Entrepreneurs’ Incentive are based on taxable capital gains. Such a deduction would effectively be reduced to the extent that it offsets a taxable capital gain that was effectively included at a one-half inclusion rate. As a result, these deductions would be available for capital gains regardless of the applicable inclusion rate.
Graduated Rate Estates and Qualified Disability Trusts would also be eligible for the $250,000 threshold available to individuals regarding capital gains not allocated to a beneficiary in the year, reflecting that these trusts have the same progressive personal income tax rate structure.
Transition Years
Two introductory inclusion rates apply for tax years beginning before and ending on or after June 25, 2024. In short, taxpayers must separate capital gains and losses based on the date of realization: before June 25, 2024, or on/after that date. The annual $250,000 threshold for individuals would be available in 2024.
Capital Gains Reserves
When selling capital property, a taxpayer may realize a capital gain. Where a taxpayer receives the proceeds from the sale over multiple years, they may claim a reserve to include the capital gain in their income for up to five years. For any tax year, including June 25, 2024, the draft legislation proposes to include the prior year’s reserve in income on the first day of that tax year (at the 50% inclusion rate). Individuals should also consider whether a reserve coming into income in a future year will be less than $250,000 (net of any other capital gains or losses expected in that future year), in which case the individual may still benefit from the 50% inclusion rate.
Lifetime Capital Gains Exemption
The income tax system provides a lifetime capital gains exemption (LCGE) on up to $1,016,836 of capital gains realized on the disposition of qualified farm and fishing property or qualified small business corporation shares. This lifetime limit increases every year based on an inflation indexation factor. Budget 2024 proposes to increase the LCGE limit to $1.25 million of eligible capital gains. This measure would apply to dispositions on or after June 25, 2024. Indexation of the LCGE will resume in 2026.
Eventual Return and Net Capital Losses
Suppose unappealing net capital losses remain after applying to any taxable capital gains in the year of an individual’s eventual return (i.e., their year of death). In that case, they may offset other income in the final and the next preceding taxation year because of the proposed change in the inclusion rate. Allowable capital losses originating on or after June 25, 2024, would be deductible against other income in the year of death and the preceding year, where eligible.
Non-Resident Dispositions of Taxable Canadian Property
Non-residents of Canada are subject to Canadian tax on capital gains from dispositions of taxable Canadian property (which includes real or immovable property, including Canadian resource property and timber resource property, and certain shares that derive their value from such property). The proposed Canadian property tax shall grow from 25 percent to 35 percent, applicable to dispositions on or after January 1, 2025.
As Canadians hold their breaths, whether, when, and how the proposals become law—individuals, companies, and corporations affected by Capital Gains rules must ensure they are current on any recent changes to the rules in 2025. The proposed increase in the inclusion rate of capital gains has widespread effects on Canadians. The complete list of proposed tax changes is available on the Ministry of Finance website.
Disclaimer: Contact your local tax advisor, accountant, and financial advisor to ensure you understand any recent changes to the Capital Gains rules for 2025. The information provided is general and based on proposals by the government of Canada that are subject to change.
Sources – Canada Ministry of Finance, Canada Revenue Agency, Government of Canada, Canada.ca
