There are no certainties in life except death and taxes — and on that second point, Canadians sure seem to pay a lot of them. Sales taxes, income taxes, and property taxes are three of the most common ones. Another is the capital gains tax, which is typically paid on any gains when you sell an investment.
But how does it work? And what is a “gain”, anyway? In this article, we’ll dive into the ins and outs of this often misunderstood – but hugely important – personal tax requirement.
What is the capital gains tax, and how does it work in Canada?
A capital gain is, essentially, any profit made on an investment. For example, if you invest $10,000 in a stock and later sell it for $30,000, you have a capital gain of $20,000 and must pay tax on the gain.
This is different from any revenue generated by the investment while you own it. So, if sell an asset and make a profit, that’s a capital gain. However, if you rent out an investment property, the rent you receive would be considered earned income and taxed at a regular rate. Interest generated from any stocks or bonds would also be considered earned income and not subject to capital gains tax.
The capital gains tax was introduced by the Canada Revenue Agency (CRA) in 1972. Before then, there were no taxes on capital gains.
How is the capital gains tax calculated?
You must pay tax on half of the capital gain — not a 50% tax rate on the gain. The amount will vary because it’s based on your annual income and where you live (each province and territory have different tax brackets and they’re combined with federal tax brackets).
For example, say you live in Alberta and have an annual salary of $80,000. Anyone earning between $53,359 and $106,717 has a marginal tax rate of 30.5% in that province. Therefore, your capital gains tax rate is half that amount — or 15.25% (since only half of your capital gains will be subject to capital gains tax).
Assuming you have a capital gain of $20,000, the taxes on the gain will be $3,050 ($20,000 x 15.25%) for the 2023 tax year.
The same calculation can be applied to all Canadian taxpayers, as long as they follow their province’s unique tax brackets.
Which types of assets and accounts are capital gains taxes imposed on?
Investments such as stocks and bonds may be subject to capital gains taxes when sold — unless they’re held in a registered account (such as a Tax-Free Savings Account or a First Home Savings Account). However, rental properties or investments held in a non-registered account will also be subject to capital gains taxes.
How do capital gains work on properties that you’re selling?
Typically, you don’t need to pay capital gains taxes when you sell your principal residence. However, an investment property isn’t considered to be a principal residence and therefore you must pay tax on any capital gains following a sale.
Can you be charged a capital gains tax on your principal residence?
You usually don’t need to pay tax on any gains because of the principal residence exemption. According to the Canada Revenue Agency, a principal residence can be a house, cottage, condo, apartment unit, houseboat, trailer, or mobile home.
For the home to be considered a principal residence, it must meet these four criteria:
- It must be a housing unit,
- You must own the property (alone or jointly),
- You or your spouse/partner or children must have lived in the property “at some time” during the year, and
- It must be designated as your principal residence.
However, there are some exceptions.
What if you rent out your residence/a unit in your residence?
If the main purpose of the property is to generate income, it won’t qualify for the principal residence exemption, and you will have to pay capital gains taxes on the sale.
If you rent out a small portion of your property, you must split the sale price between the part used for your principal residence and the part used for rental purposes. A split based on square metres or the number of rooms is considered acceptable by the CRA if the split is reasonable. You will have to report a capital gain on the part used for rental purposes, but not for the part used as the principal residence.
However, if you only rent out the property for a week or two over the course of a year, you won’t need to report any capital gains when the property is sold.
What is a capital loss and how does it work?
A capital loss means you lost money on the sale of an investment. Generally, the CRA allows a capital loss to reduce capital gains in any of the three preceding years or in any future year.
A capital loss can be used to offset any capital gains. For example, if you sell one investment that results in a capital loss of $45,000 and sell another that results in a capital gain of $50,000, your total capital gain is just $5,000.
Can you claim a capital loss on a property?
Yes, you can claim a capital loss if you lose money on the sale if the property was purchased for investment purposes. However, if it’s your principal residence and you lose money, you can’t claim a capital loss because it’s considered personal-use property by the CRA.
The bottom line
It’s crucial to understand how capital gains tax works if you dabble in any sort of investing. You should consider speaking to an accountant before the sale of any investment — including secondary property — to file properly while also minimizing your tax bill.
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