Another year has flown by, and it is time to consider year-end tax planning. In most years the basics don’t change but this year we are faced with some new considerations and large challenges.
Capital Gains Inclusion Rate
This is the big wild card. In its Budget 2024, the Government proposed to raise the capital gains inclusion rate from 50% to 66.67% for any gains realized after June 24th, 2024. A great amount of time and money has been spent planning to deal with the increase, including, in many cases, accelerating the capital gains accrued on some assets. This resulted in taxpayers triggering gains that may not have otherwise been triggered this year, and, for real estate, resulted in large Land Transfer Tax being paid. We are near the end of the year and the proposal has not passed into law.
There are a number of possible outcomes for these proposals:
They could be passed into law as proposed
The provisions could die on the order paper and be re-introduced in 2025. In this case, what would the effective date be - June 25th, 2024? January 1st, 2025? The date that the provisions are re-introduced?
There could be an election and a Conservative Government which may or may not re-introduce the provisions
In either of the second or third option there is a question of what the effective date would be – likely not the 25th of June, 2024.
I’ve been known to be a cynic. The cynic in me would suggest that the Liberals got what they wanted even without the provisions becoming law. We saw a great many Canadians disposing of assets and deliberately triggering taxable gains prior to June 25th, 2024. This will have resulted in a huge influx of tax dollars which would likely not have been received if the threat of the increased inclusion rate had not been there.
Normally, my advice would be to trigger capital losses before year end and to trigger capital gains in 2025. However, if the capital gains provisions don’t come into effect until 2025, then a capital loss in 2025 is included at 2/3 for deduction purposes, and only 50% if it is triggered in 2024. The obverse is true with gains. A capital gain triggered in 2024 may only be included in income at a 50% rate in December and could be included at a 2/3 rate in January.
A complicating factor (as if we need further complications) is that, under the proposed rules, an individual is entitled, annually, to have up to $250,000 of capital gains taxed based on a 50% inclusion rate and only the excess over $250,000 taxed with a 2/3 inclusion rate. By postponing the triggering of a capital gain you may be giving up on the lower inclusion rate for $250,000 of gains in 2024. Note that, in your planning, a corporation or a trust is not entitled to any amount at the 50% inclusion rate.
For sales of stocks, the last settlement date in 2024 will be Monday, December 30th, so a final decision on disposing of investments need not be made immediately, but any trades must be completed no later than the 30th. Hopefully we will know before then if the provisions will become law for 2024.
For those that disposed of assets prior to June 25th, depending upon how the disposition was done, you may have an option to trigger the gain in 2024 or to defer the gain. Unfortunately, if a taxpayer did an internal sale of real estate, the Land Transfer Tax is not going to be recovered.
Make sure to discuss this with your advisors to determine the best way to trigger, or avoid triggering the capital gain or capital loss.
Family Trusts
Many of you have family trusts that hold various investments, and, often, shares of family corporations. Capital gains triggered in the trust are usually allocated out to beneficiaries to be taxed in their hands. Since the trust will not be entitled to any amount of gain at the 50% inclusion rate, this allocation to beneficiaries becomes even more important.
Decisions about allocating gains must be made on or before December 31st. CRA has taken the position that to tax a capital gain in the hands of a beneficiary rather than the trust itself, the trust must pay out at least the taxable portion of the capital gain, or make this amount legally payable, as evidenced by an enforceable promissory note or other documentation. If the capital gains provisions have not become law by December 31st, these decisions will have to be made in a vacuum. The safest course would be to assume that the new 2/3 inclusion rate has become law and allocate based on that.
Again, it is important to meet with your advisors to make these decisions.
Lifetime Capital Gains Exemption
Many of you will have seen my various newsletters concerning the Lifetime Capital Gains Exemption.
An Exemption is available for shares of a Qualified Small Business Corporation, as well as farming and fishing corporations or partnerships.
The exemption was scheduled to increase to $1,250,000 for each shareholder as of June 25th. This is also not yet law.
Assuming that this will become law, the value of the Exemption, in terms of taxes saved, could be as high as $450,000.
BUT there are requirements in terms of the nature of the assets held in a corporation to determine if the shares qualify for the Exemption. It is necessary that, at the time of any disposition of shares, 90% of the assets must be used in the active business, and for 24 months prior to any disposition 50% of the assets must be used in the active business.
It is necessary to meet with your advisors to ensure that the assets of the corporation do not disqualify you from the Exemption. It is usually possible to move assets out of a business corporation and into a holding company on a tax-free basis to ensure that the shares of the operating business continue to qualify for the Exemption.
This is not really a year end planning issue, but an ongoing planning issue. But the change in rates makes this an issue worthy of note.
Capital Gains Reserves
Often as part of a sale of shares or assets some of the sale price is not paid before the end of the year. An example would be the sale of a building with a Vendor take back mortgage. In such cases, there is a reserve mechanism to allow the Vendor to defer some of the capital gain to future tax years.
Now we are faced with the decision to claim a capital gain reserve and to bring it into income in future years when the reserve amount may be subject to a 2/3 inclusion rate, or to tax it all in 2024 at a 50% inclusion rate and to pay tax on all of the gain when the sale proceeds may come in over a number of years. This will require professional assistance as the necessary calculations can become quite complex.
Again, the cynic in me believes that even if the proposals don’t become law, the Government will benefit from a huge influx of tax dollars as a result of the uncertainty of the capital gains proposals.
Alternative Minimum Tax
The claiming of certain deductions and preferences can trigger the imposition of the Alternative Minimum Tax (AMT). The AMT is exactly as it sounds – it is an alternative method to calculate your taxes owing. This tax is often applicable when you have claimed a preferential tax deduction like the capital gain exemption or charitable donations.
Each year, your tax owing is calculated under the normal method, which considers the preferential tax deductions and credits. This number is then compared to a second calculation where you don’t receive these same deductions and credits, but your tax is calculated at a lower tax rate. When the second calculation results in a higher amount owing, you will pay this higher amount. The difference between the regular tax owing and the second calculation is the AMT.
When you are subject to the AMT, this can often be viewed as a prepayment of future taxes. Over the next seven years, you can recover the AMT as a credit against your regular tax. In order to recover this AMT in the future, you would have to be taxable in future years. If you do not have income in these years, or are not otherwise taxable, this AMT credit will be lost. As long as you have taxable income in the following seven taxation years, the AMT is not an absolute cost, but is, effectively, an advance payment.
AMT does not apply to a person for the year of death. However, the deceased may have paid AMT in one or more of the seven years before the year of death. If this is the case, part or all of the AMT the deceased paid in in those prior years may be deducted from the tax owing for the year of death.
The rules regarding the AMT have changed effective for 2024, which could make the AMT payable by more taxpayers than previously.
My standard advice in previous years has been to make any charitable donations prior to the end of the year. However, with the changes to the AMT rules, large donations could trigger a significant AMT liability where this was not an issue in prior years.
Again, it is important to get qualified advice when a transaction or deduction might now trigger AMT.
Gifts to Employees
As we approach Christmas and Hanukkah, it is important to note the Canada Revenue Agency (CRA) administrative policy regarding non-cash gifts to employees.
Employers can give their employees non-cash gifts on a tax-free basis, for special occasions such as Christmas, Hanukkah, birthdays, and marriages. As long as the total cost of the gifts to the employer, including taxes, is not more than $500 per year, the employer can deduct the cost of the gifts, even though the employee is not taxable on the value of the gift.
This benefit does not apply to cash or near-cash gifts and awards. The value of such gifts and awards will be considered a taxable employment benefit. A near-cash gift that would be taxable might be a gift card that could be converted to cash or a prepaid Visa or Mastercard. The CRA has an administrative policy that will treat some gift cards as non-cash gifts and, thus, not taxable to the employee
For employers who want to give employees gifts at this time of year, as opposed to cash bonuses, the benefit of being able to deduct the value of the gifts while allowing the employees to receive the gifts tax free can be significant. It is important, though to make the gift properly. For example, rather than give an employee cash to purchase a new printer (which would be taxable to the employee), the employer should purchase the printer and gift the printer to the employee, which could be a non-taxable gift.
GST/HST Holiday
The federal Government has announced a two-month GST/HST holiday starting on December 14th, 2024, and lasting until February 15th, 2025. During this period, the Goods and Services Tax (GST) and Harmonized Sales Tax (HST) will be temporarily removed from many essential items. This means that items like groceries, restaurant meals, snacks, children's clothing, toys, books, and even Christmas trees will be tax-free. Many of these items are already non-taxable to begin with, such as basic groceries and prescription drugs.
The holiday primarily targeted holiday essentials like children's clothing, footwear, toys, and certain food and beverages. While these items are usually taxable, they will be tax-free during the holiday period. For those who will have to purchase these items, it is certainly worthwhile to purchase them before February 15th.
Proposed US Tariffs
Although we can debate the threatened US tariffs and question whether Trump really understands how tariffs operate, there is little doubt that we will see large tariffs on Canadian goods exported to the US when he comes to power in January. Likely, we will see the Canadian Government impose countervailing tariffs on goods imported from the US.
For anyone considering large purchases, the time to make those purchases is prior to inauguration day, January 20th, 2025, to avoid a potential 25% tariff imposed by our Government on US imports.
Income Splitting with Low Prescribed Rate Loans
This isn’t really a year end issue, but is an important consideration in one’s overall planning. I have written about this many times.
The prescribed rate is currently 6% so the borrower must be getting a very good return to make it worthwhile.
Aside from the need to have proper paperwork to document the loan, the interest has to be payable, and actually be paid, no later than 30 days after the end of the taxation year. No matter how insignificant, this interest must be paid by January 30th, not January 31st.
On older loans, made when the prescribed rate was only 1% or 2%, many ignored the requirements for payment, thinking it insignificant, but failing to make the interest payment every year can result in huge tax costs to the lender.
Not only should paperwork be kept to show the payment, but the lender should be including the interest received in his or her tax return for the year of receipt of the interest. A lot of good, and expensive, tax planning could go out the window because the interest was paid 1 day too late, or because the lender neglected to include the interest payment in his or her income.
Once the loan is in place, the prescribed rate at the time of the loan will continue to be applicable to the outstanding balance of the loan, even if the prescribed rate increases in the future. If the rate drops significantly, steps can be taken to change the terms of the loan to a lower rate of interest, but it must be done carefully and not without professional advice.
As you will have gathered, so much that this Government has done, and not done, requires professional assistance. Albert Einstein is often quoted as saying, "The hardest thing in the world to understand is the income tax."
As always, I would be pleased to work with your advisors on any of these issues.
I hope everyone has a safe holiday season and a happy and healthy New Year.
-- Chuck
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