The 2024 federal budget proposed a significant shift in the taxation of capital gains, which will have implications for some taxpayers. Effective June 25, 2024, the capital gains inclusion rate will increase from 50% to 66.67% for corporations and trusts, and for individuals on the portion of capital gains exceeding $250,000 in a given calendar year. This article discusses the potential impact these changes might have on your personal financial situation.

Please note: Legislation has not yet been released at this time.

Individual taxpayers will only be affected by these changes if they realize capital gains exceeding $250,000 in a given year. Capital gains realized below $250,000 will continue to be included in income at the 50% rate.  

Your capital gains tax rate in a given year will also depend on both your income level and your province of residence. For more information on the topic of tax brackets, please refer to our article, Understanding your personal taxes. For those in the top marginal tax bracket, capital gains rates are outlined below:

To illustrate the impact, an individual already in the top tax bracket in Alberta realizing a capital gain of $500,000 in 2025 would pay $20,000 more in tax than if the same capital gain was realized prior to June 25, 2024. They would pay 24% on the first $250,000 and 32% on the remaining $250,000. Effectively, this results in an 8% higher tax rate on any capital gains over $250,000.

Situations that could result in larger capital gains where individuals may be impacted include:

• Rebalancing a large portfolio in a non-registered account.
• Selling a heavily appreciated vacation or rental property.
• Selling a business.
• Liquidating a non-registered investment portfolio to fund a large purchase or significant personal cash flow needs.
• Taxes at the time of death.

Individuals anticipating any of the situations noted above in the near future should consult their tax advisor and financial advisor to discuss potential actions prior to June 25.

In determining whether to realize gains before the deadline, you should consider both your expected rate of return and investment time horizon. Taxes on gains realized in 2024 become payable April 2025. Thus, you will need to consider if deferring the tax bill further into the future offers more benefit.

A breakeven analysis can be one tool to consider, based on your expected rate of return. The table below illustrates the breakeven point for the various expected rates of return for an individual in the highest tax bracket, based on province of residence. In other words, what investment time horizon is required for an individual investor to be in the same after-tax position by maintaining their investments and paying tax at the higher inclusion rate in the future versus crystallizing capital gains now, at the lower inclusion rate, and investing the after-tax proceeds?

Source: ATB Wealth

For example, assuming a 5% rate of return, it would take between 8 and 9 years to reach the same after-tax financial position if capital gains tax is deferred and paid at the higher inclusion rate.

It’s important to note that the table above includes a number of assumptions that may not reflect your personal situation. For example, the calculations assume that the entire capital gain will be subject to the higher inclusion rate after June 25, 2024 and ignores the $250,000 threshold. For many taxpayers realizing a large capital gain, lower rates may be available for a portion of the gain, due to both marginal tax rates and the $250,000 threshold.

For investors with heavily appreciated portfolios, crystallizing may be as simple as selling investments and repurchasing them. To ensure your trade is settled before the deadline, complete it by June 21 at the latest due to the T+1 settlement period starting on May 27, 2024. For less liquid assets, planning to crystallize gains may be more involved, requiring consultation with a tax advisor well in advance.

Perhaps most noteworthy is that the increased inclusion rate will apply to capital gains resulting from the deemed disposition of assets on death. When a Canadian resident dies, they are treated as if they sold all of their capital assets immediately before death for fair market value, often triggering significant capital gains. As such, the changes will result in a larger tax liability on death for some taxpayers. 

Regularly reviewing and managing capital gains to prevent a significant accumulation taxed at the higher inclusion rate on death will be important. For individuals with a shortened life expectancy, selling assets annually while staying under the $250,000 threshold may be better than deferring all gains to the year of death. 

In light of these changes, individuals should review their estate plan with their financial advisor, as well as tax and legal advisors, to determine necessary adjustments. Insurance coverage should also be reviewed to ensure it remains sufficient given the potential increased tax liability on death. 

Let’s review an example of where an individual may wish to take action prior to June 25. 

Jake is a 90-year-old Alberta resident who has been working with his financial advisor to grow his portfolio for many years. Jake also inherited his late wife Julie’s portfolio when she passed away last year. In total, Jake has a non-registered portfolio with an adjusted cost base (ACB) of $2,000,000 and a fair market value (FMV) of $3,500,000. Unfortunately, Jake has also recently faced some health issues. 

If Jake were to realize his capital gains today and pre-pay his tax bill, he would pay $360,000 of tax which would leave him with $3,140,000 to re-invest (assuming the capital gain will be taxed at the top marginal rate in Alberta). 

Assuming a 5% growth rate and that Jakes lives for two more years, crystallizing gains now versus on death results in the following:

By taking action before June 25, Jake could leave an estimated $95,000 more to the beneficiaries of his estate. However, triggering a large capital gain before June 25 could also trigger Alternative Minimum Tax (AMT), reducing tax savings.

Individuals considering realizing large capital gains before June 25, 2024 need to be mindful of AMT. AMT is a parallel tax designed to ensure high-income individuals pay a minimum level of tax by limiting certain deductions and tax benefits. The current AMT rate of 20.5% is 4% higher than the top federal rate for capital gains realized before June 25. Significant gains realized before this date may trigger AMT, which can be recovered over the next seven years. However, if insufficient tax is paid in following years, AMT may become permanent.