You have a capital gain when you sell, or are considered to have sold, what the Canada Revenue Agency deems “capital property” (including securities in the form of shares and stocks as well as real estate) for more than you paid for it (the adjusted cost base) less any legitimate expenses associated with its sale.
How is it taxed?
Contrary to popular belief, capital gains are not taxed at your marginal tax rate. Only half (50%) of the capital gain on any given sale is taxed all at your marginal tax rate (which varies by province). On a capital gain of $50,000 for instance, only half of that, or $25,000, would be taxable. For a Canadian in a 33% tax bracket for example, a $25,000 taxable capital gain would result in $8,250 taxes owing. The remaining $41,750 is the investors’ to keep.
There are several ways to legally reduce, and in some cases avoid, capital gains tax. Some of the more common exceptions are detailed here:
Capital gains can be offset with capital losses from other investments. In the case you have no taxable capital gains however, a capital loss cannot be claimed against regular income except for some small business corporations.
The sale of your principal residence is not subject to capital gains tax. For more information on capital gains as it relates to income properties, vacation homes and other types of real estate, read “Can you avoid capital gains tax?”
A donation of securities to a registered charity or private foundation does not trigger a capital gain.
If you sell an asset for a capital gain but do not expect to receive the money right away, you may be able to claim a reserve or defer the capital gain until a later time.
If you are a farmer or a newcomer to Canada, they are special capital gains rules for you. The specifics can be found at the CRA website.
CRA is scouring your social media & donning disguises
Whether it’s through a photo on social media or a casual conversation with a friend, the Canada Revenue Agency is always watching and listening. And their investigators will pursue you tirelessly if they think you’ve been lying on your tax return. Their subject of choice? These days, it’s anyone and everyone. “We always think it’s only the rich who the tax man is interested in but it’s the little fish they like the best,” says Paul DioGuardi, a senior tax lawyer and author of The Taxman is Watching. “The Internet is becoming a favoured weapon for the CRA to find and analyze all kinds of data so they can watch people they think are cheating on their taxes.”
Here’s five ways the CRA may be watching you that you probably weren’t aware of.
1. Your social media
Any of your open social media accounts are publicly accessible and some posts could prompt a CRA investigation into your financial life. From the CRA’s point of view this is a legitimate practice on their part because posts on social media really aren’t private. How does this work? Say you just bought a new $85,000 sail boat and are boasting about it by posting a photo of it on Facebook. The CRA could see this and then check it against what you declared as income last year. “If you declared $40,000 in annual income, or a modest amount, they’re going to be suspicious and come calling,” says DioGuardi.
2. Your sales and purchases on Kijiji, Etsy and Ebay
Is your passion for vintage furniture really a hobby? Or are you running a small business from your living room and not declaring the profits on your tax return? “To compare this data would take years in the old days,” says DioGuardi. “Now the CRA can data-mine these non-traditional sources of info in a heartbeat pretty much whenever they like. They are a collection agency with police-like powers.”
3. Your small business’s sales data
Cheating on your company sales numbers by declaring lower revenue than is actually the case? Don’t. The CRA is able to use data to plow through years’ worth of your credit card transactions with the aim of matching your stated sales with electronic data they’re able to access.
4. Bank accounts and investments
To spot undeclared, taxable interest, dividend and capital gains income, the CRA has access to info from all Canadian financial institutions. They can also determine if you’ve exceeded your TFSA and RRSP contributions and penalize you accordingly.
5. Capital gains from condo and real estate sales
“In the old days I had to go to the registry office to find out when a piece of real estate had been bought and sold,” says DioGuardi. “Not anymore. The Internet changes the game.” Now, the CRA can look at all real estate transactions and easily flag suspicious transactions. What are they looking for? Condo flippers and real estate sales where the owner hasn’t declared capital gains and paid the appropriate taxes. Multiple property ownership where the taxpayer isn’t also declaring rental income is another trigger for investigation.
6. Your income and pensions
The CRA is hunting for disparities in retirement income. It can access info on your bank account balances and income and match it with previous tax returns. If there’s a wide discrepancy, be prepared to answer more questions.
7. Mystery shopping
Don’t be surprised if CRA agents show up at your restaurant or other small business, in disguise to eat a meal with the intention of rooting out suspicious financial behaviour. The agents could pose as a couple out for a meal to see how your business works and what the count is for people frequenting your business to ensure it is aligned with what you have reported in previous tax returns. “It’s a big job and I think they will sub-contract a lot of this out in future,” says DioGuardi.
What does all of this mean? That the shift of responsibility is really shifting to the taxpayer and not the tax collector. In the past, the tax man simply told you what you owed. These days it’s completely up to you to declare what you should be paying, and they have the means to check that what you’re saying is absolutely accurate. “Remember, they can search anything, put liens on your property and slap you with penalties and late fees,” says DioGuardi. “My suggestion is to always give full and complete disclosure on your annual tax return. With data mining the way it is today, if you don’t, then believe me, they will find you.”
Q: I bought a house in 2010 for $600,000 and lived in that house as my principal residence until 2013. Then I bought and moved into another property. I rented out the first house and reported all income on my tax returns. In 2016, I sold the rental property for $900,000. When I file my tax return for 2016, how much capital gains am I supposed to declare and report to the CRA? Is it $900K minus $600K, minus the cost of disposition; or $900K minus whatever the deemed fair market value of the property at the time when I moved out in 2013, minus the cost of disposition?
— Wallace, Toronto
Ayana Forward is a Certified Financial Planner with Ryan Lamontagne Inc. in Ottawa:
You are entitled to a principal residence exemption for the time you lived in the residence—between 2010 and 2013. The formula for calculating your principal residence exemption also includes an extra year so you will have four years of exemption according to the formula.
The formula is as follows:
((# of years home is principal residence + 1)/# of years home is owned) x capital gain
Your capital gain before factoring in the principal residence exemption is your proceeds of disposition ($900,000) minus your purchase price ($600,000), which works out to $300,000.
Using the above formula, your principal residence exemption is:
((3 + 1)/6) x $300,000 = $200,000
Your capital gain after factoring in the principle residence exemption is $100,000 (as $300,000 minus $200,000 = $100,000). Because it’s a capital gain, the CRA will only charge you tax on 50% of that gain, resulting in a taxable capital gain of $50,000.
The amount of tax you pay on that $50,000 will depend on your marginal tax rate.
To report the sale and tax owed, you must complete form Form T2091(IND) Designation of a property as a Principal Residence by an Individual (Other Than a Personal Trust) and file it with your income tax return.
Source MoneySense.ca – Ayana Forward is a real estate investor who also holds the Certified Financial Planner (CFP®) designation. Ayana is fee-based Financial Planner with Ryan Lamontagne Inc in Ottawa, ON.