Capital Gains Tax Changes & Tax Planning Primer

The Federal Budget announced on April 17th makes some major changes that break tax integration for Canadian Controlled Private Corporation (CCPC) owners unfavorably. The effective tax rate will rise by 33.3%. A huge jump. This will also impact individuals realizing capital gains over $250K in a year.

Fortunately, it will take effect June 25th, 2024. So, there is going to be an opportunity to do some tax planning. This post will describe what the proposed change means and some basics that will factor into more advanced tax planning discussions that will follow. I will start super-basic and build.

Tax dis-integration is worsening, but resistance is not futile.


Main Message: Don’t be an impulsive human. Don’t just dismiss it. Help is Coming.

There are ways to deal with this change. How will depend on factors that we’ll unpack over a series of posts, and it could be a nothing-burger for many. Especially with some smart planning. My PWL Capital friends and I are also building some tools to help tax plan. I want to lay down a basic knowledge foundation today.


Unrealized vs Realized Capital Gains

A capital gain is the increase in value of an investment between the time you buy it and when you sell it. Before you sell it, those are unrealized gains and selling means realizing them. Tax is only due when the gain is realized. Taxing the gain prior to that would mean taxing the gain when you don’t have access to the money. That could force sales to pay taxes and create chaos. It is also hard to really know the value of something before it is sold.

The realized gain is the difference between the value when sold and the adjusted cost base (ACB). Adjusted cost base is what you paid minus expenses. For example, subtracting transaction costs to buy the holding. For example, if I buy a stock for $100 today plus a $7 brokerage fee, the ACB is 107$. Let’s say I sell it 20 years from now for $200. That would be a realized capital gain of $93. The tax would not be on that $93 profit until 20 years from now when it is sold.


Capital Gains Inclusion Rate

Only part of a realized capital gain is subject to tax. That is called the included gain or taxable gain. The excluded gain is tax-free. Why would a capital gain only be partially taxed? Because some of that increase in value is just due to inflation and does not represent an increase in buying power.

Take the example of our $93 capital gain 20 years from now. Today, $93 would buy enough food to feed a family for a few days, or a teenager for one day. Twenty years from now, $93 may just buy me a coffee. Inflation ate my buying power. So, taxing that $93 fully would be an “inflation tax” rather than taxing a real increase in wealth.

The other reason that capital gains are taxed at a lower rate is to encourage people and companies to risk capital to grow and innovate. That is part of how to grow a country’s economy and productivity beyond just population growth.

The inclusion rate is the proportion of a capital gain that is taxed. Most recently it has been 50%, but it is now moving to 66.67% for corporations and large individual gains. So, 2/3 of the gain taxed instead of half. A 33% tax jump. How much of a tax break is required to encourage investment and account for inflation is debatable. So, it often varies based on government priorities and their balance sheet.


Capital Losses

If you lose money on an investment, the capital loss can be used to offset capital gains. Either retroactively up to three years or carried forward as far as you want into the future. This is also an incentive to risk capital to build the economy. The government shares in your gains, but also your losses. Kind of like an investing partner. Thankfully, a silent one given their mixed “investment” and management track records.

Only the included part of a capital loss is used to offset gains. So, half a loss when the inclusion rate is 50% and 66.67% of the loss at the new rate. During the transition, one report suggests previous losses at 50% inclusion will be allowed at 66.67% against new gains. I haven’t seen that in the government documents yet and listening to politicians talk about the budget is fingers on a chalkboard to me. There are just comments that more details are coming.

How much tax you pay on capital gains from an investment in a corporation flowed through to personal after-tax money that you can spend involves several steps. There is tax in the corporation on the capital gain and personal tax on the dividends paid out.

The included gain is taxed like passive investment income. That means roughly 50% tax upfront, applied to either half the gain now or 2/3 of the gain after June 25, 2024. So, about 25% before and 33% after. Part of that tax is refundable as nRDTOH when the corporation pays out non-eligible dividends to a shareholder. The shareholder pays tax on that non-eligible dividend at the marginal tax rate for their tax bracket.

The excluded part of the capital gain is credited to the capital dividend account (CDA). That would be half currently, or 1/3 after June. A positive CDA balance can be used to pay out a tax-free capital dividend. That requires a special election to be filed that your accountant will usually charge a fee for doing.

The process is outlined below (before the change) using a $100K realized capital gain. The inclusion rate change will shunt 33% more money to the left “taxed side” that is subject to corporate and personal tax.


Tax Integration Compared to Personal Capital Gains

That flowchart was at the top Ontario tax bracket. The tax integration will vary slightly by province, but is similar and generally does not favor corporations already. The actual net tax rate will depend on your personal tax bracket. However, the relative efficiency of personal vs corporate capital gains was similar. Below is a high-level summary of the total tax integration before and after the change compared to personally.

Prior to the change, corporations paid slightly more tax than an individual would. About 2% more in the chart below. After June 25, a corporation would pay about 12% more tax than an individual earning a capital gain directly. A massive punitive break in tax integration. If the individual is realizing a gain over $250K, the portion above that is taxed more heavily. However, that is still about 3% less than a corporation flowing that capital gain through.

The above table uses the top Ontario marginal rates. I have also built an online table that shows tax integration and tax deferral. Adjustable by province and showing all tax brackets. It also shows tax rates and integration for other forms of income. The dynamic tax table is housed here.

The tax rate on capital gains is only part of the story. Because tax is not due on a capital gain until it is realized, there is tax deferral. Avoiding tax now, but paying it later instead. A corporation adds an extra layer of tax deferral. That is the major benefit of a corporation. There is a low corporate tax rate on income now and the rest is paid later personally when a dividend is paid out.


Tax deferral is generally good, but not always.

I will give a simplified example to illustrate the point. The classic example is using an RRSP vs a TFSA. Both have tax-sheltered growth making them comparable. The biggest difference is that an RRSP means no income tax now and full income tax later. That is 100% tax deferral. In contrast, a TFSA is contributed to with after-tax money. So, full income tax now – but it comes out tax-free later. The mirror image.

Let’s say that you have invest $1K of income to invest. Your are in a 53.5% tax bracket. So, your RRSP contribution gets a 53.5% tax refund. The full $1K is invested. For the TFSA, you pay $535 tax and invest the remaining $465.

Your RRSP grows way bigger due to the higher amount of initial invested capital. Like, double the amount.

Eventually, you take the money out of the RRSP at the same tax rate as you contributed from.

How much after-tax money do you have with each account? The same amount. Tax deferral now to the same rate in the future is not a tax savings.

The hoped-for situation with tax deferral is deferral from a high tax rate now to a lower tax rate in the future. In that case, tax deferral is also tax savings. Leaving your more after-tax money to spend. This would be common for a high-income earner when they defer taxes during their big income and consumption years to a lower rate in retirement. Unfortunately, the opposite could happen. If you are in a very low tax-bracket now, and even if you expect that in the future relying on income-tested benefits, the tax deferral from an RRSP could cut the wrong way compared to a TFSA.

Tax deferral from a low current to higher future tax rate makes tax deferral worse. The knee-jerk response to that with a known tax-hike on capital gains coming in a few months is to take the tax hit now at a lower rate rather than defer to a higher future tax rate. That is what the RRSP vs TFSA scenario would suggest. However, there is an important difference with capital gains.


RRSP Deferral vs Capital Gains in a Taxable Account

Inside the RRSP, the tax liability is building at the same rate proportional to the portfolio growth. So, when it is paid on exit, it takes its share of the profit. All capital gains within an RRSP are taxed as full income. However, in a tax-exposed account, like a non-registered personal or corporate account, capital gains are only taxed partially when realized. Not fully as income. So, as the portfolio and tax liability grow over time, the tax liability grows more slowly than it would for regular income.

That difference becomes really powerful when you see the growth compound over time. Taking a tax-hit now at a slightly lower rate could be over-powered by the compound growth of the portfolio faster than the embedded tax liability growth over a long enough time frame. When a capital gain is realized in taxable account the liability is reset. However, in a taxable account a new tax liability on the capital gain starts to grow again. With the TFSA/RRSP there is just one tax liability on entry or exit. This is all really hard for humans to wrap their head around. That applies to Excel-Human Cyborgs like me too. I have messed it up conceptually more than once. So, I made an excel model to show it. I will unpack it further in a future post and publish it when I clean up the messy coding.


Lower Tax-Hit Now vs More Compounding Capital Gains

To give you a teaser and hopefully stop you from doing something impulsive, I will show a quick example. Below is a chart from someone realizing a $1MM dollar capital gain in the personal Ontario tax bracket. Three-quarters of that gain would be subjected to the higher inclusion rate after June 25, 2024. Nasty future tax bump. Taking the gain early ends the current tax-deferral journey at a lower tax rate. It then resets the ACB to zero to start building the tax liability at the higher tax-rate from scratch. Seems good. In fact, if you compare selling before June 25, 2024 to later this year – it is. About $50K more after-tax money tax by selling before the deadline.

If your eyes didn’t just glaze over, you’ll notice that it isn’t the end of the story. After 9 years, you would have come out ahead (including taxes) by not selling before June 25th. The compounding of not realizing the gain, leaving it invested to grow capital and spit out income proportional to that eventually makes up for that tax savings.


Time-frame, income mix, and growth rates matter.

For this example, I used a simple 3%/yield divided evenly between eligible dividends, foreign dividends, and interest/rental income. Plus a 4%/yr capital growth rate.

The chart below shows liquidation of the portfolio at the higher capital gain rate for each data point. So, the end of the tax-deferral journey compared each year. As you can see, in this simple model, after about 9 years, having not realized the gain at the lower current rate gets overtaken by deferring.

Don’t do anything rash if your planned timeframe is off in the distant future. Consult with your tax professional. Look at your current circumstances and long-term plan. I made this capital gains tax strategy calculator to help the discussion. It is for personal gains. The corporate one is in the works.


Other Factors for Personal Taxation

There are a few other factors to consider as well. The simulator accounts for these and I will illustrate in a separate post. However, they add to the case that your decision should be case-specific.

If you are in a low current tax-bracket. Realizing a large capital gain now will bump up your current tax rate way more. Even moreso than that if you have kids in the mix and qualify for the Canada Child Benefit. Clawback of that income-tested benefit is effectively a further tax bump.

The other issue is whether you will liquidate your capital gain all at once or not. If it is all in real estate. Then, it would be in large chunks with high transaction costs. If there are liquid fractional investments, like stocks, bonds, ETFs, or mutual funds. Then, you would likely slowly whittle those gains down in retirement. Probably below the current higher rate that kicks in at $250K. Of course, tax rates could rise dramatically in the future, but that is unpredictable about how or when.

To add another layer, the question of a tax bump vs tax deferral gets more complicated when you are using a corporation. There is tax deferral from unrealized capital gains. However, corporate active income also has tax-deferral to allow more capital to be invested. Realizing capital gains on purpose, a capital gains harvest, can even improve the corporate tax deferral if you would otherwise have to pay out taxable salary or dividends to fund your personal spending.

Other factors enter into the equation. Particularly, how you pay yourself affects corporate tax deferral and efficiency profoundly. As does usage of other accounts strategically – like an RRSP or IPP, TFSA, and sometimes even a personal account. That will take another post to unpack some more. And another simulator. Fortunately, I have one and built future capital gains rate changes into it. This tax change was a bit wonky because it broke tax integration and has tiers personally. However, I am working on it. My friends are too. We’ve been building similar tools and comparing notes. Here’s a twitter post from Mark McGrath.

I don’t know what the best strategy will be. As mentioned, it will be situation-specific for a personal taxable portfolio. Like a personal account, it will almost certainly be situation-specific and depend on multiple factors for a corporation. Time frame, compensation strategy, and other tax planning wrinkles will factor into the answer.

My point is – don’t do anything rash. Like a human. Process this. Let your tax planners process it. The clock is ticking, but we have some time. I need to get plugged back into my Excel Docking Station, but I will share more as I work through it and share tools to help your discussions and planning. Check back in.

55 comments

  1. Thank you for shedding some light on this otherwise incredibly murky and complex topic! For the past several days digesting the issue I ended up with lots of questions that would probably need a calculator to wrap my head around and model through. Keep up with the great work!

    1. Thanks Mark! I gone into “mad-professor-mode” as my family calls it. It is characterized by a somewhat glazed expression as I am running to run Excel models in my head. It is actually really interesting and not intuitive.
      Mark

  2. Thanks Mark, I appreciate you creating this detailed explanation of the bad tax news. Of course those who created these new taxes never help those subject to it but continue to vilify and harass the hard workers.
    I’m hoping Pierre will reverse these new tax measures when he soon becomes PM

    1. Yeah. It is annoying. The first round in 2015 actually contributed to burn-out for me. Being villified while you are working your butt off is not a good feeling. The good news is that I saw I was paying about 66 cents on the dollar to taxes, university fees, and fee clawbacks. That made me re-evaluate how I spend my time and the burden I was putting on my family to enable it. I now work much less, don’t worry about unfilled shifts, and my spending has only moderately declined because I started paying attention to tax planning. Try to not let it bug you (hard I know). I doubt that it will get reversed. It is politics and this is an easy target from a voter standpoint. Hard to understand and not impacting the average employee directly that they can see. I couldn’t resist making my first Trudeau meme since my early days of rage-blogging though.
      -Mark

      1. Love your Justin memes. I still think about the “cuckoo clock” one all the time (COVID announcements) lol!!!

        Thanks so much for this for all of us. The calculator is superb and the final graph is really helpful to put it into perspective.

    1. I definitely thinks so. My secret thought (didn’t want to give ideas) is that an increase in the CG inclusion rate to make the tax rate similar to other income – particularly eligible dividends could tip the scales. I don’t think this killed them for personal accounts. Unless you make a massive liquidation. Corporate accounts still have an advantage for the non-Canadian market ETFs. More analysis is needed, but that is my initial thought.
      Mark

  3. Thanks Mark!
    Of course, if we have a lost decade of nil returns, it could be much longer to break even on not selling now. Thankfully, even a doc retiring in 2025 will have, presumably time to break even on not selling gains now.

    Bigger picture, we’ll all need larger portfolios at retirement, or plan a lower withdrawal rate, or both. This will also mean less $ in the hands of our kids at death. (Hopefully also a smaller national debt as well, but I am skeptical!)

    This is particularly expensive estate tax in the event of premature or untimely death! Looks like many of us with kids will need a bit more term 10 Insurance, or will need to carry Insurance later in life than originally planned.

    Macro picture, is that ultimately these taxes will be borne by society. To borrow your example Mark, my mechanic will likely increase his prices to accommodate for as much of this tax increase as he can, over his remaining planned working life. CEOs will demand a raise or more stock options to compensate for this tax. Doctors may not be able to as effectively negotiate their fees, but may decide to work less and work longer, effectively de risking their portfolio (policy risk and burnout risk.). Maybe govt will respond by increasing FFS rates. If they can afford it; with debt service costs I doubt it!

    This will undoubtedly create headwinds in the fight against inflation. Businesses will charge more and supply will constrict in some sectors (people deciding to work less). Not to mention effects of continued federal deficit spending. Economists will say that increased taxation reduces demand and brings down inflation, which is true. I just have a feeling that the pie is going to shrink on this one.

    Maybe this will trigger that recession we’ve all been hearing about. To be certain, the revenue from this measure is not covering the full deficit and we should all be prepared for capital gains inclusion rate to increase to 75% at some point. It may be hard to accept, but will be easier to manage if we start planning for this likelihood sooner than later.

    The only sure thing we can do has been covered extensively on this site: cut spending (or avoid lifestyle inflation) and save more, maybe open an IPP. And continue to read the latest material in the hopes of staying on the leading edge of tax optimization.

    Capital gains always had an unknown payout: it depends on stock market returns, or downturns and sequence of returns, and tax rates of the day. This is a painful reminder of the political risk that Mark has hinted at before.

    Fortunately, the best things in life are free.

  4. Amazing post LD!

    Took a look at your tax tables and played a bit with your calculator. Fantastic work!
    Thanks so much for all you do!

    Could you increase the “Amount To Sell Before June 25, 2024 vs Later” slider range? The “Portfolio Market Value” slider goes up to 10MM but the “Amount To Sell Before June 25, 2024 vs Later” slider maxes out at 500K. Also, I assume the calculator ignores the new AMT rules that would start kicking in at around 800K capital gain?

    Your tool verifies intuition that the larger the unrealized capital gain, the longer it takes you to “break even”, and with a large enough gain, breaking even will likely never occur.

    Some random thoughts:

    – One major factor to consider is the probability that the PCs will change the inclusion rate after X years. If someone is reasonable confident it will be lowered back down to 50%, then it will have a major impact on their decision. But as you mentioned, it could be raised and not lowered. PC MPs have been asked directly, repeatedly, if they will reverse the capgains tax if they win….and in every instance they completely avoid answering the question. Not a good sign.

    – Selling now and resetting your ACB to 0 will allow you to claim future capital losses. Yes, it’s somewhat of a moot point, but shouldn’t be ignored in someone’s thought process when thinking on whether to sell. It’s also the perfect time to readjust a portfolio’s risk profile as despite people starting out at, say, 70/30, it starts drifting to 80/20 and retired folks are reticent to sell and rebalance due to OAS clawbacks/other.

    – All of a sudden dividends make a lot more sense, along with expensive tax shelters like life insurance….sadly.

    – The “it only affects 40K Canadians” message is total bullshit. Anyone who owns a corporation with passive income, or owns a 2nd property, or simply dies will be ensnared. 16% of Ontarians own a 2nd property, and 100% of them will eventually die. Canada’s taxation rates were always high but are now obscene. People living in Florida have a 15% long term capital gains tax. The result of this budget will be people fleeing the country. I will be one of them.

    – The more I think about it, the more I realize that this budget change is genius. They managed to raise taxes substantially on the upper middle class silently by showing that it only affects 40K ultra high net worth Canadians. It tackles rental housing, tackles people using corps as tax deferral and tax shelter vehicles, dissuades emigration, forces many people and most corporations to give up long standing unrealized gains, and gets a massive influx of dollars into government coffers by April next year. It’s despicable, but it’s genius. Some might stay the course and never sell hoping that it will be repealed, but I feel most will realize at least some gains, especially corporations and folks with large unrealized gains.

    1. Thanks! I have been collaborating with my friends at PWL. They are coming out with some similar calculators. We’ve been cross validating and will likely just work together moving forward. Some cool stuff in the pipeline.
      Mark

    2. Something else that comes to play in the decision to realize the capital gains is an unpaid mortgage. With the interest rates higher at renewal, it could make sense to take cap gains out of the corp prior to the deadline and pay off the mortgage at renewal for peace of mind.

      Mark, do you know if Ben Felix does fee only consultations? I do not want to be locked in a % AUM nightmare for years, but I would love to get a second look by a professional given the evolving complexity of the situation.

      1. Hey Mai,

        I know PWL doesn’t. I am toying with the idea, but I am reluctant to change my relationship from colleague to professional service provider. I would say for your mortgage point is that it a capital gains harvest may make sense for that reason even without the legislative change. Especially if your mortgage bugs you. The impending legislation will make it look better to beat the date rather than not. Outside of ON/NB, the passive income limit could come into play to put a cap on it though. Working on a model. I don’t know anyone outside of PWL and I that have the complex compensation simulator built for a corp. The advisor software companies don’t – they have it on their roadmap, but not there yet because Ben, Braden, and I have done most of the research on it. We are comparing notes to validate (so far we line up really well). Anyway, back to Excel – I want to get answers.
        Mark

        1. I am trying to think through a similar situation of harvesting a large capital gain in the corporation (happens to be in ON, in case it is relevant), prior to the change in inclusion rate, to pass a tax-free dividend through the CDA to be used to pay off a mortgage that happens to be coming up for renewal in the next few months. I see two obvious downsides: (1) a lot of extra corporate tax payable for the tax year (~25% of total realized capital gain) – loss of tax deferral means less money available to invest!; and (2) for the size of the capital gain I would need, it would likely take away the SBD for the year completely, making all corporate income ineligible for the lower rate. I am not sure if there are other downsides that I am missing, and I am also not sure how #2 plays out in the current tax year (in terms of additional tax increase for the corp and/or personally) or future tax years (i.e., once the corp loses the SBD, can it get it back in future tax years if passive income is below the threshold for that year?)

          1. Hey Confused. It is confusing for sure. There are actually important nuances. Escpecially in ON. I built a simulator to model it – it is complex, but accounts for the nuances.

            A few big points to make:
            1) If you realize the gain in the corp. Yes, there is 25% tax on that now (or more later). However, about 15% of that is refunded to the corp when you pay out non-eligible dividends to live on. So the net tax in the corp is about 10%.
            2) Paying out those dividends may mean less salary for a year or a few (to live on since you use some dividends and depends on how much you spend).
            3) The CDA is a major benefit. Prior to the change half goes to that. A third after. Remember that money you pass out as a capital dividend is money you don’t need to pass out as a taxable dividend. So, it actually leaves more money in the corp (boosts corporate tax deferral) while also removing the embedded tax liability of the capital gain in the corp (about to get worse).
            4) Losing the SBD for a year in ON due to passive income can be a bonus. The corp pays a blended rate of Federal Gen Corp and ON SBD. About 18%. But, it gets GRIP to pass out eligible dividends as if it had paid 26.5% tax. So, an in between corp rate with a lower personal rate. A net savings. The corp gets the SBD back after a year if it isn’t over the limit again. But, not a bad thing. We’ve done it on purpose twice now.

            So, in ON, a harvest of gains and using the CDA loses some capital gains tax deferral, but saves some tax now. It boosts corporate tax deferral using the CDA instead of regular income. The SBD loss for a year can be an extra bonus (if the rules don’t change).

            There is some more info and links to articles about what I am talking about on the simulator page. I plan to illustrate with some examples too.
            Mark

          2. I meant to add (in case it was not clear) that the capital gain harvest I am considering would be over and above the usual annual draw from the corp used for lifestyle expenses. Not sure if that impacts any of the points in your response above.

          3. Yes, in the case of using the money to pay down a mortgage or other troublesome personal debt – that strengthens the idea. There is a use for the money right away. It would otherwise come out eventually. Your interest saved is a compounding risk free tax free return. Nothing is better than that when you consider where to deploy money.
            Mark

        2. I had another question about how the ins and outs of triggering a large CDA (in this case, as specified in my other posts, using the proceeds to pay off personal debt).
          For the purposes of this discussion, let’s say that the remaining personal debt is $250k, and the corp has $500k in unrealized capital gains.
          I understand that the entire $500k capital gain can be realized, which permits payment of $250k through the CDA tax free. The taxable portion of the $250k results in corp tax payable of ~$125k, which then adds ~30% ($75000) to the RDTOH notional account. (keeping numbers approx for ease of illustration).
          If I understand correctly (which I may not!), the corporation would have to pay out an ineligible dividend of ~$195000 to recover the nRDTOH.
          Here’s the question – is there some way to blend a reduced CDA payment amount (based on realizing less of a capital gain) with the after tax proceeds of the ineligible dividend in the same year, such that the total after tax cash personally would equal the $250k needed to pay off debt, but the entire RDTOH amount is used up in the same year? Would this be more tax efficient than accumulating a large RDTOH balance that might be difficult to eat into if lifestyle expenses and salary considerations (say that a minimum salary is required to support IPP contributions) make it challenging to pay out enough dividends? What would this look like using the example above? My tiny brain can’t wrap itself around this math!

          1. It is definitely confusing. How I would approach it? I would use the full $250K capital dividend to pay down my debt. I would give enough non-eligible dividends to fund my spending. That may take a year or two depending on my personal spending. That may also mean pausing salary for a year (and less IPP/RRSP) – that is what the IPP Optimal compensation white paper algorithm would have done. In Ontario, that would also bump the corp over the passive income limit the following year. Currently in Ontario, that is a bonus. Your case is basically what I modeled in “Case 1” – it would be like the spend and invest but better since you are paying down debt with the money. The pay would look like this. The IPP would be a bit smaller, but your mortgage paid off faster. Overall, a bit more portfolio value when you consider the taxes to get money out of the IPP and no tax for being mortgage-free.

            If you really want to maximize your IPP no matter what, then spreading out some extra non-eligible dividends over a few years to keep in us in a lower tax brackets would be another option.

            You could realize the gain in chunks like you are saying, but that would also mean realizing the later chunks at the higher tax rate (a 33% cap gain tax jump)- assuming it goes through as first pitched. If the government changes their mind and gives a $250K/yr threshold for corporations like it is planning for personal – then doing it in a couple of chunks would make more sense. I would wait to see what the legislation is because that changes the best option and then discuss with my accountant/advisor to make a multi-year plan (I can’t really give specific advice – just ideas for people to think about).
            Mark

  5. The recent changes in the cap gains illustrates the importance of tax diversification. You may plan to leave money in a corp for the next 30 years, but what will be the rules 30 years from now? No one knows. So invest in a CCPC, but also invest in a TFSA, RRSP etc.

    If I had to hazard a guess, i think a CCPC has a greater probability of future unfavorable taxation changes than other accounts e.g. RRSP TFSA. And the recent cap gains changes are consistent with that. The federal government could have extended the $250K limit to corporations as well as individuals. But they didn’t. So the recent cap gains change emphasize the importance of maximizing tax efficient withdrawals from a CCPC.

    Foreign dividend are taxed unfavorably in a CCPC compared to personal taxation, if there is foreign withholding tax. And now cap gains have joined the list of investment income taxed unfavorably in a CCPC. Canadian dividends still work well in a CCPC.

    Earlier on in T2’s time as PM, income tax rates were increased for the top brackets. A few years ago, the government instituted passive income limits in a CCPC. And now they have increased cap gains tax, with a greater tax increase for CCPCs.

    1. Absolutely! I have been harping on this one for years. If you want to pick an easy target for a tax, pick something complicated and that doesn’t impact a large voter block likely to vote for you. Vehicles used and understandable by the average voter are tougher to pick on.

      As you allude to tax deferral is also a risk. It is generally good (especially with capital gains), but I also hedge against future tax risk by having some largely post-tax assets. We’ve slowly grown personal taxable accounts when it made sense to strategically move money out of our corp tax efficiently. Attributable to a lower in come spouse is even better. We’ve used all of the options to diversify in my post about income splitting (except a spousal loan) – available to all Canadians. And few extra considerations for business owners.
      -LD

  6. The press and the government keep promoting the fact that the lifetime capital gains exemption ceiling has been raised to 1.25 million. I don’t understand how one makes use of this or where this actually comes into play for planning purposes? Is this more obfuscation ( just like saying these changes are only going to affect 0.1% of Canadians), or is this exemption something we can make use of to strategize along the way?

    1. Yeah. I am pretty sure they aren’t counting incorporated professionals as “Canadians”. Just individuals with massive personal incomes. The LCGE is for people who sell their business. Not many docs can because our infrastructure is easily replaced with new equipment and it is easy to open a practice and fill up due to the supply and demand. Picking on farmers and fishers is bad optics. Docs, not so much and it is complicated enough to explain the nuances that it is perfect for political part-truths and statistical games.
      -LD

  7. The following changes have happened to CCPCs: preretirement income splitting has effectively ended (2018) , passive income limits (2019) have been created and now there is increased cap gains tax relative to personal rates (2024).

    This has happened within the last 6 years under one prime minister, who leads a centrist party. There are those who would know much more about the history of CCPC taxation than I would. But prior to 2018, I ‘m not aware of unfavorable tax changes being made to CCPCs.

    Not only has there been a willingness on the part of the government to make unfavorable tax changes to CCPCs, but there has been an ability to do so. The latter point is important. Increased taxation is not politically popular, but at least so far, CCPC taxation changes have not resulted in material damage to the ruling party.

    The precedent has been set of increasing CCPC taxation. If the Conservative party comes in to power, it’s possible that CCPC taxation might not increase. But eventually the Conservatives won’t be in power, and tax increases in a CCPC will likely be back on the agenda.

    If you’re thinking about having a CCPC for the next 30 years, what has happened in the last 6 years is very relevant. It’s possible that in 30 years d/t the passive income limits, the ability to use the small business deduction may be effectively lost. The increased cap gains tax will impair your ability to use the CCPC as a retirement vehicle similar to an RRSP. If you don’t use the CCPC as a retirement vehicle, you face increased tax on death; you’ll pay more tax that is basically estate tax. I think that over the next 30 years, there is a 0% chance of favorable tax changes and there is a significant risk of unfavorable tax changes.

    The precedent of increased taxation on corporate investment income relative to personal tax rates has been made. One might make the argument that the increased cap gains tax is only “a little more”. However, “a little more” was likely intentional on the government’s part. The political risk of an increase that is only “a little more” would have been higher. I think the possibility of another tax increase in CCPCs in 5 years that is only once again “a little more” is not trivial. And what about 10 years and 15 years and 20 years? I make the analogy of boiling the frog.

    At present, there is the tax deferral advantage of a CCPC. But will possible future tax changes negate that advantage? If someone starting out asked me whether they should use a CCPC as an investment vehicle, I’m not certain that I could give a yes answer to that question. And if someone has a CCPC, I would emphasize the importance of tax efficient withdrawals.

    1. Also as of 2023 can’t pay medical expenses like previously through Corp.
      Very few advantages with a Corp anymore with weighing the accounting and other costs .
      I suggest enjoy your life with max hours off, billing as much as you can with the minimal hours of work and max out tax advantaged accounts. Don’t sacrifice yourself as the government doesn’t care about you.
      Remember this government’s definition of diversity, equity and inclusion doesn’t include the people who are forced to pay the bills without even a measly thank you

      1. The early attacks on incorporated professionals and high-income earners 2015-2018 was a good wake-up call for me. I began cutting back for the reasons you mention. I don’t mind taxes. They pay for a stable society. But, the attitude and rhetoric hits hard when you are sacrificing yourself and your family as well to support that type of workload. Most people don’t comprehend, or often believe the work involved. It is just too far out of their realm of experience and there are many nuances. The government takes full advantage of that.

        There are severely diminished returns for working more than you need to. Not just for you, but your family too. Fortunately, we can opt to work and spend less and still have a decent lifestyle. It takes a pause from the grindstone to realize that though. Maybe this most recent bout will help some rebalance their lives a bit.
        -LD

  8. The following is an addendum to my previous post. I try not to talk about politics much, but to some extent it is unavoidable. There is a chance, albeit quite small, of the NDP forming the federal government. After all, the NDP (or the social democratic equivalent in Quebec) has been in power in every province, except possibly the Atlantic provinces. If that happened, tax changes to CCPCs might not be “a little more”. Once again, for someone with a 30+ year time horizon, that must be considered.

    1. Totally. Historically we are on the low end compared to what happened after the deficits of T1. Took over a decade and an inclusion rate of 75%. What the NDP had in their platform.
      -LD

  9. Hi Mark,

    Thanks for all your hard work on modeling out these recent changes.

    I have to say this makes corporate investing much less attractive.

    I am wondering if you’ve redone some of the prior estimates you have made on comparing corporate investing with deferred capital gains versus personal investing through income splitting with a lower income spouse (with either a bottom or middle personal tax bracket).

    Income splitting the investment funds isn’t hard to manage for either spouse: a low income spouse who works 20 hours per week for the corp can receive dividends; a middle income spouse can retain all of their earnings for taxable investments while the higher income partner pays all of the bills.

    I am wondering–given the differential in cap gains of 13% more tax in the corp compared to the personal top marginal tax bracket, and much more substantial differential compared to a lower or middle income marginal tax bracket spouse–if at retirement, personal investing through a spouse is now a consistently better option that corporate investments (with minimal bloat).

    As always, your thoughts are appreciated.

  10. Pretty sure based on history that the Cons won’t revert this change and also based on history that this will go up to 75% in the next few years.

    Any ideas if and when it makes sense to dissolve the company if you no longer intend to have active income under it? This is my last “intended” year to have active income in the account. Assuming there is a max tax rate for dispersing all funds in the company and its different based on province the company and/or director/employee resides in.

    Thanks, your webpage and especially the calculators have been an amazing resource for me.

    1. I suspect it will rise over the course of years as the deficits really come home to roost too. The question of whether to dissolve is more of a longer term planning issue. I am working on it, but it may make sense to harvest capital gains in the corp before June 25th (sell and then rebuy just to trigger the gain now). Then pay out a tax-free capital dividend and some regular ones. Live off of the excess cash for few years while only using enough taxable dividends to release the corporate RDTOH. Most people are better off changing their active corp to a holding company and moving the money out slowly over time rather than liquidating it at high personal tax rates. Definitely something that requires a bit of financial planning (either from your advisor if you have one or hiring a fee-only advisor for a one-off plan). More to come on the imminent tax planning.
      -LD

  11. I wanted to comment on AMT as I feel some people might get trapped by it.  (I’m not going to explain what AMT is.)

    Back in 2023, no amount of capital gains would result in triggering AMT.

    Between Jan 1 and Jun 25, a capital gain of above ~380K will now trigger AMT. This is because the AMT capgains inclusion rate jumps from 80% to 100% and the AMT rate increases from 15% to 20.5%, but the federal tax rate on capgains is unchanged. 

    After Jun 25, the federal tax rate on capgains has increased because the capgains inclusion rate above 250K increases from 50% to 66.7%.As a result, I believe once again no amount of capital gains will trigger AMT.

    So for people who are about to crystalize a very large capital gain before June 25, thinking that they are locking in a lower tax rate on capital gains…that might not be true. You might be caught by AMT and be paying a higher than expected tax rate.  But…everyone says AMT is fully recoverable…that it’s just a prepayment of taxes. I have found that trying to recover AMT can be extremely difficult for several reasons:

    1) You can’t use a past AMT credit in a tax year unless you are again subject to AMT.

    2) In a year that you don’t trigger AMT, you are only allowed to use a portion of the AMT credit such that you don’t again trigger AMT.  This ‘portion’ can be very small.  For example, if you only have capital gains, you can only use your credit towards less than ~1.5% of your capital gain .  (Prior to the AMT rule changes it used to be larger, as high as 4.4%).

    3) Unless you have a decent amount of regularly taxed income (interest income is best, then dividend income), you will never be able to recover most of the AMT carryover, and after 7 years the AMT credit expires.

    TLDR:
    Folks who are thinking about triggering a very large deemed disposition before June 25, and who won’t have a lot of unfavourably taxed income (interest, non-el dividends) in the next 7 years, need to factor AMT impact into their decision making.

    1. Thanks. Was just looking at this yesterday. Tough to model, but it is a nasty trap. Especially if you have a lowish income and sell something big (like a cottage). You may not use the credits up before they expire because your usual income is low.

      It could still happen if they are taxing the person with a low baseline income who put their money into big chunky assets. Oh, and ding charitable donations with AMT too. Brilliant. I have to wonder who they listen to for taxation advice beside their PR and Media spinners.

      The more complicated it is, the more they can mess it up and hope no one notices. There real intention is to pull forward taxes for this year. Then, leave the next government holding the bag while those who didn’t sell wait until they die instead.

      Mark

      1. Isn’t there an upper limit for ATM above which we fall back into regular tax brackets? I was looking at the tax tips page yesterday but could not figure out the upper bracket.

        Also, ATM is higher than 20.5% because there is an additional provincial ATM except in QC.

        1. Yes. It is a tax higher rate when you add in provincial AMT. There is no upper limit. There is an exclusion of the first $173K or so. For eligible dividend-only income, it wouldn’t trigger AMT because of that.

          However, if you have say $60K income and realize a $400K capital gain. That $400K capital gain has an 80% inclusion rate for AMT calculation. That means $320K plus $60K minus $173K = $207K taxed at the AMT rate. That is a lot more tax than you’d pay on $60K of income and you may not use up the credits in 7 years.
          Mark

          1. Yes, however, if the capital gain comes from the corp, it flows tax-free from the capital dividend account and should not trigger AMT at a personal level. Or the 50% taxable portion can trigger AMT?

          2. Correct. I am not talking about corporations. AMT is personal tax only. Someone who has a low personal income, but owns a secondary personal property, for example. That is probably a lot of average Canadians who didn’t realize that they were ultra-wealthy in terms of tax-policy.
            Mark

          3. The inclusion rate for capital gains will be 100%. $287k in income at 20.5% federally. AMT is $58,835. They also, get the BPA tax credit which might lower that by $1,400.

            Using other income so there’s no CPP. Using your case they’d have to pay $60,578 of federal taxes in the normal regime.

            TL;DR AMT doesn’t make the tax bill go up.

          4. If you had a $1million capital gains (50% inclusion rate) with a $60k income. You might need to pay $21k more in federal taxes. $180.5k vs $159.5k.

            You can recover that in 3-4 years on a $60k salary.

      2. In the recent budget charitable donations were revised to allow 80% of the charitable donation tax credit to be claimed in the AMT regime (vs the proposed 50%).

        Cash Donations: -33% in the normal regime and -26.4% (33%*80%) in the AMT regime.

        Donations of Capital Gains: -33% in the normal regime and -20.25% (33%*80% – 30%*20.5%) in the AMT regime.

        MTR: +33% in the normal regime and +20.5% in the AMT regime.

        While, donations equal the marginal tax rate in the normal regime. The 26.4% benefit from cash donations is better than the marginal AMT tax rate. Now when donating securities, the costs basis is like a normal donation, but the capital gains portion only has a -20.25% which is slightly less than the 20.5% marginal tax rate in AMT. But this is a very minimal difference.

        And donating capital gains is very powerful as you get the benefit of the donation tax credit and don’t need to pay capital gains tax on the growth. I wonder if purchasing leveraged ETFs results in more effective giving.

    2. I don’t understand your claims. “For example, if you only have capital gains, you can only use your credit towards less than ~1.5% of your capital gain.”

      This doesn’t make sense. There’s the 173k exemption. If you make under that you’ll be able to fully recover federal taxes.

      1. Hi Christian. I did some modeling of AMT credits and how they can be used up after June 25th if you only earned capital gains (no interest/eldivs/ineldivs income).

        See https://imgur.com/a/hJmY84I

        I’m not a finance guy and don’t have access to pro tax software. I’m just a tinkerer. Based on your knowledgeable comments, it seems like you are a finance guy, likely a CPA. Could you validate if my numbers above are correct?

        1. Note, I don’t have a CPA.

          I was looking at your numbers and they seem quite close (I was looking at 2024 numbers, you used 2023). At $300,000 your marginal federal tax rate is 17.33%, and it’s 19.55% at $400,000. That’s both under 20.5% which is why AMT credits allowed dropped.

          It does show having pure capital gains won’t cause you to pay AMT after the change.

          Yes, you might only be able to claim $5k-10k of federal AMT credit if you have pure capital gains. But, if you have any ordinary income you’ll be able to claim a lot more AMT credits.

          Before the inclusion rate change, having only capital gains at 50% inclusion will cause you to pay AMT. $10k at 500k, $22k at $800k, $30k AMT at $1m of CG. That’s still recoverable within a few years.

  12. I would just like to say a BIG THANKYOU to all the posts above by very well informed colleagues. Park’s comments are spot on and Ignac has brought up a very relevant AMT reminder. Please keep up all the thought provoking comments, I could NEVER have learned this from accountants, etc

  13. Thanks for being on top of this!

    Can I request a post on how to exit Canada as a CCPC MD/investor haha only half joking, between accumulating tax changes, wages in USA, dwindling Canadian dollar, and just the general spite trudeau has for MDs for the first time I’m thinking about it.

  14. The vast majority of those with a CCPC plan to have it on a long term basis. But the rules at the time you start it may change in the future, which complicates planning. Nevertheless, I think you have to consider what may happen.

    The present federal government wants to increase social programs (pharmacare, dental care etc.). They want Canada to be more like Sweden, and that is going to cost money. The government already has increased the top personal tax rates, but I’m not certain how much more room there is to do that. First of all, it may not be politically popular, although it might be with the “Make The Rich Pay” group. More importantly though, Sweden doesn’t have the US as a neighbor, but Canada does. If the government increases taxes enough, they run the risk of the more affluent leaving the country. If the top personal tax rates can’t go up much more, where is the money going to come from? I think CCPCs are a probable target.

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