What Will the Federal Budget Mean for Higher Net Worth Families?
The recent federal budget introduced significant changes. Understanding how this impacts you is important.
I’m breaking from tradition. I usually make a point to not write about topics that are found elsewhere online. However, the recent federal budget had enough changes that I want to give you a summary of the key items that could impact higher net worth families.
Increased Tax on Capital Gains
As you likely have heard, one of the main items in the budget is an increase in the capital gains inclusion rate from 50% to 66.7%. A capital gain is inured when we sell an asset for more than we paid for it. The most common examples would be a publicly traded stock, equity mutual fund, real estate other than our principal residence, and a private corporation. The gain in value is a capital gain. Currently 50% of the gain is tax free and 50% is taxed at the owner’s marginal tax rate. Starting June 25, 2024, 66.7% of the gain will be taxed at the owner’s marginal tax rate. One important differentiator is who the owner is. For individuals, the increased inclusion rate only applies after you incur a capital gain beyond $250,000 in a tax year. However, for corporations and trusts, the new 66.7% capital gains inclusion rate applies on all capital gains.
Lifetime Capital Gains Exemption
Eligible individuals that own Canadian qualified small business corporation shares, qualified farm and/or fishing property have the potential to use the Lifetime Capital Gain Exemption (LCGE) on disposition of these assets. In the latest budget, the personal limit has increased to $1,016,836 and will be indexed to inflation moving forward. It is important to discuss this with your tax professional to ensure the sale is structured in a manner to have the LCGE apply.
Canadian Entrepreneurs’ Incentive
This is a new incentive for business owners to create value by growing a business. The next $2,000,000 of capital gains incurred beyond a shareholder’s LCGE will be taxed at a lower rate. However, there are conditions, and many business sectors are excluded, so speak to your tax professional to see if this applies in your situation.
Don’t let the tax tail wag the dog. We all want to minimize our tax bill but there are often more important considerations in our decision-making process than the tax due.
How This Could Impact You
- Vacation Properties (owned for personal use) – Many cottages were bought decades ago and have a gain in value beyond $250,000. When this property is sold (or transferred to family), any gain beyond the $250,000 will incur the higher tax rate.
- Marketable Securities and Rental Properties – If owned personally, see (1) above. However, if the investments are owned by a corporation or a trust, the new 66.7% capital gains inclusion rate applies on all of the capital gain(s).
- Private Company – Many businesses started from nothing, and as a result, they could, over time, have easily increased beyond their adjusted cost base by more than $250,000. If the company is owned personally, each shareholder may be able to claim their Lifetime Capital Gains Exemption (LCGE). If you sell qualifying shares of a Canadian corporation in 2024, and have not previously used your LCGE, the LCGE amount is $1,016,836. That is, the first $1,016,836 of the gain would not be subject to tax. For the next $250,000 of capital gains the current 50% inclusion rate would apply and beyond that the new inclusion rate of 66.7% applies. If a corporation sells the private company the inclusion of the capital gains will be 66.7%. Note: We are providing a high-level summary; this is a simple example, it is critical to speak with your tax professional about your specific situation as there are details that may need to be considered.
What Assets Grow Tax Free?
The following types of assets still grow tax free, although some are, or could be, taxable on their sale:
- Principal residence
- Whole Life Insurance
- Capital Gains that can be sheltered by your Lifetime Capital Gains Exemption
- RRIF, RRSP, TFSA accounts and pension plans
What Can You Do?
Strategy 1 – If you are sitting with accrued capital gains in an asset that exceed $250,000 you could sell the asset and trigger the gains before June 25. You will save $8,930 in tax for every $100,000 of gains triggered above the $250,000. This should be straight forward for a publicly traded stock, but the timelines may be tight for a piece of real estate. Keep in mind, although this saves you tax in the longer term, it also triggers tax that needs to be paid that otherwise would not be paid until a future sale. Speak to your investment advisor regarding their strategy and timelines regarding your publicly traded stock. If they plan to hold a stock for the long term you may decide to not trigger tax now.
Strategy 2 – If you have an asset you were planning to sell in the short term but will not be able to sell before June 25, you could consider moving the asset to a private corporation using a Section 85 Rollover. You need to complete this transfer prior to June 25. This could extend the timeline for the asset sale. You need to speak to your tax professional to see if this strategy is applicable and cost effective for your situation.
Strategy 3 – For a personally owned asset, trigger capital gains over time, never exceeding $250,000 each year. This should be straightforward for a public security but may not work for real estate.
Strategy 4 – Don’t let the tax tail wag the dog. We all want to minimize our tax bill but there are often more important considerations in our decision-making process than the tax due. Leave your assets as they are and incur tax when the other factors determine the time is right for the sale. For example, your kids may not be able to take over the cottage ownership for many years.
Keep in mind tax rules change. In the past the capital gains inclusion rate was 50%, it went to 75% and was then lowered to our current 50%. Future governments may change the tax rules to be more favorable.
Low Hanging Fruit
- If you are currently in the process of selling a business that will be impacted by the new rates, see if you can complete the sale before June 25, 2024. The same applies for a current real estate transaction.
- Review the holdings of your Investment Holding Company and discuss with your tax professional and investment advisor, given the types of return they generate if they should remain in your corporation or be sold or moved elsewhere.
- If you were going to sell an asset soon that these changes will impact, and you can make the sale prior to June 25, do so.
As mentioned, this is a general overview and should not be considered tax advice. If you are concerned about how these changes impact your situation, speak with your tax professional as soon as you can.