A simple guide to capital gains and capital losses.
So, you made money on your investments last year – but now it’s tax season and you don’t know what to expect. Unfortunately, capital gains tax in Canada can be kind of complicated. Fortunately, we love explaining complex financial topics! Keep reading for the full play-by-play (and a few tips for reducing the taxes you’ll owe).
What even is a capital gain or capital loss?
A capital gain or capital loss is the difference between a capital property’s purchase price and its sale price. Now, let’s break down these official-sounding words into something easier to understand.
Capital properties include physical investments like land or buildings, as well as non-physical investments like securities (a stock, mutual fund, or exchange-traded fund (ETF) for example).
A capital gain or loss is simply the money you make or lose when you sell an investment. You have a capital gain when your investment is worth more than when you bought it, and a capital loss when your investment is worth less than when you bought it.
Capital gains can be realized or unrealized. A realized capital gain is the profit you make when you sell an investment a.k.a “realize” your gain – these gains are taxable. An unrealized capital gain is when the value of your investment increases, but you haven’t sold or “realized” it yet – these gains are not taxable.
Easy enough, right?
Now, how do you calculate a capital gain or capital loss?
To calculate a capital gain or loss from an investment you sold, you need a few key pieces of info. Don’t let the vocabulary intimidate you – it’s not as complicated as it sounds.
- Proceeds of disposition: This is what you earned from the sale of your investment.
- Adjusted cost base (ACB): This is the amount you originally paid for your investment plus any expenses or fees paid to acquire it. That’s why it’s called adjusted cost base. It’s the cost adjusted for expenses and fees.
- Outlays and expenses: These are any fees you paid when you sold your investment (like legal fees or commissions).
Now that we know what all the jargon means, we can calculate a capital gain like this:
Proceeds of disposition - (ACB + outlays and expenses) = capital gain or loss
That might seem a little complicated, so…
Let’s do an example together.
Say you invest $2,000 for 100 shares of Company A and pay $20 in fees to do so. You later sell all 100 shares for $5,000 and pay a commission fee of $50.
First, plug the proceeds of disposition into the formula. That’s the $5,000 you sold the shares for.
Second, insert your ACB. Remember, this is just the purchase price plus any purchase fees. So, your ACB is $2,020 ($2,000 + $20).
Finally, figure out outlays and expenses – in this case, the $50 you paid to sell the stock.
Now, we’ll use the formula: $5,000 - ($2,020 + $50) = $2,930.
We have a capital gain of $2,930…but how is it taxed?
How are capital gains taxed?
In Canada, only 50% of the value of any realized capital gain is taxable. In our example, we have a realized capital gain of $2,930. The amount you would add to your taxable income would be half of that, so $1,465 ($2,930 x 50%).
Keep in mind: the amount of tax you pay varies depending on what tax bracket you fall into (and what province you live in). Basically, the higher your total income, the more tax you’ll pay on your capital gains.
Tips for reducing capital gains tax.
Here are a few moves you can make to maximize your investment returns and reduce capital gains tax:
- Time the sale of your investments to periods when your income is reduced (for example, retirement) and when you’re under a lower tax bracket.
- Invest using a tax-advantaged account like a TFSA to (legally) avoid capital gains tax.
- The Canada Revenue Agency (CRA) lets you use capital losses to offset capital gains. Claim capital losses against capital gains to reduce the amount you’ll be taxed on.
- Donate your assets by transferring ownership of securities to a registered charity through an "in-kind" transfer – this will reduce your income tax. We recommend consulting a professional to ensure you do this correctly!
- You can also transfer capital property to your spouse in a lower tax bracket to save on capital gains tax. Again, consult a professional first.
Canadian capital gains tax can get pretty complicated depending on the situation – so consulting with your financial institution or a tax professional is always a good idea.
Happy tax season!