A Silver Lining

Written by: Louise Chow

It hasn’t exactly been a banner year for the markets, but many of our clients have nevertheless realized a capital gain on some of their investments. The fact that other of their investments have experienced a loss presents a silver lining.

That silver lining is called tax-loss selling.

What is it, exactly?

It is a strategy by which the investor reduces their capital gains tax owing. Put simply, the investor sells an investment or investments at a loss, in order to reduce or eliminate the capital gain incurred – and thus the capital gains tax attracted – by another investment.

Let’s say that in 2022, you sold stock ABC, which increased in value by $10,000 during the time you owned it. Half of that increased value (i.e., 50% of the capital gain amount – also called the “inclusion rate”) is your taxable capital gain and must be included as part of your income. Your taxable capital gain will be taxed at your own marginal rate, so, if you are in the highest tax bracket of 50%, in our example, you are left with a net gain of $7,500. The calculation is as follows:

• Capital gain from sale of stock ABC: $10,000

• Taxable capital gain (Capital Gain x 50% Inclusion Rate): $5,000

• Less capital gains tax at your marginal rate of 50%: $2,500

• Net gain: $7,500

Now, let’s say that also in 2022, you sold stock DEF that decreased in value by $3,000 during the time you owned it.

• Capital loss from sale of stock DEF: $3,000

This leaves you with a net capital gain of $7,000:

• Net capital gain: $10,000 - $3,000 = $7,000

Half of that $7,000 then faces the assumed capital gains tax of 50%, resulting in a tax bill not of $2,500 as in our original example, but of $1,750:

• Net capital gain x 50% inclusion rate x 50% capital gains tax: $7,000 x 50% x 50% = $1,750

There you have it. Tax-loss selling that leads to a saving, in our small example here, of $750.

There is a very important rule to keep in mind, however:  the investor is prohibited from selling an investment at a loss in order to lower their tax bill, and then buy back that same asset, or one that is substantially identical, in an attempt to capitalize on a future increase in its price.

That practice is referred to a “wash sale” or a “superficial loss.” 

The investor is in fact permitted under Canada Revenue Agency rules to repurchase the asset, but it cannot be done within 30 days of the sale, either by you or by what is termed an “affiliated person,” which includes your spouse, partner, a corporation controlled by you or them, or a trust in which you or they are a majority-interest beneficiary.

Want to learn more about tax-loss selling – and about strategies to avoid creating a superficial loss? No matter your question, we are always here to help.  Just let us know!