After decades of discussion, it finally happened: the Federal government raised capital gains taxes. However, the increase, which bumps the capital gains inclusion rate to 66.7% from 50%, only applies to individuals who realize more than $250,000 in gains in a year or on any gains realized by a corporation or trust. “The capital gains inclusion rate is clearly the new news here,” said Doug Porter, BMO’s Chief Economist and Managing Director, during the company’s “First Look at the 2024 Canadian Federal Budget” panel.
Porter, who was joined by John Waters, Vice President, Director of Tax Consulting Services at BMO Private Wealth, and panel host Camilla Sutton, BMO Capital Markets’ Director of Canadian and U.K. Research, said this was an unusual budget overall in that most of the spending measures were announced in the days and weeks leading up to it.
As for the day of, “the major questions were the details on how it will be funded,” said Porter, pointing out that the budget adds $36 billion in new additional spending over the next five years, while the budget deficit is estimated to come in at $39.8 billion in fiscal year 2024/2025.
Clearly, funding is coming from increased tax revenues, with Waters calling it a “spend and tax” budget. “We’re dedicating lots of funding towards housing and affordability in particular, but the main headline will be the increased taxes on the wealthy,” he noted.
Increasing capital gains
While the capital gains inclusion rate increase is expected to impact a small fraction of Canadians, and potentially thousands of businesses, it’s “still a relatively meaty change,” said Porter. It could also impact average Canadians who may own a family cottage that’s climbed in value over time or an income property that needs to be sold.
As it stands, for individuals, any gains below $250,000 will still be taxed at the normal inclusion rate of 50%. If you’re in the highest tax bracket, you’d still pay approximately 25% in tax on that gain (depending on the province). If you realize more than $250,000, the new blended tax rate could now exceed 30% when you factor in provincial taxes.
Waters pointed out that the new higher capital gains rate is now similar to the top rate on eligible dividends. “The spread between the top rates on capital gains and dividend income that existed in the past is now much smaller,” he said.
It’s possible wealthier Canadians will rush to sell property or assets before the new rate kicks in in June, added Porter, and then hang on to their assets for a while before selling again. Indeed, that’s what the government is expecting to happen. While it estimates it will bring in $19.4 billion in revenue from this tax increase over the next five years, $6.9 billion of that is projected to be generated in 2024, increasing to about $4 billion to $5 billion in its fourth and fifth years. “We’re possibly going to see a big wave of selling now, and then a freeze up in a year or two,” he said.
Incentives for entrepreneurs
While the tax increase will impact some business owners, the government has helped entrepreneurs by increasing the lifetime capital gains exemption (LCGE) from approximately $1 million to $1.25 million (that number will be indexed to inflation starting in 2026). That will allow owners who sell their business to receive more proceeds from the sale of their corporation without being subject to tax. “There are some positive developments on the flip side of this increase in the capital gain,” said Waters.
In addition to the LCGE rising, the government’s new Canadian Entrepreneurs’ Incentive (CEI) could further reduce the tax rate on capital gains for business owners on a qualifying sale of the shares of their business – beyond the LCGE – by half (to 33%) on gains realized after 2024. The amount of gains potentially eligible for the lower rate will start at $200,000 in 2025, and increase by $200,000 every year thereafter up to a maximum of $2 million by 2034.
However, there are some caveats, as the new CEI is more restrictive than the LCGE. Notably, it does not apply to professional corporations, or companies in the financial, insurance, real estate, food and accommodation, arts, recreation, entertainment, consulting or personal care services sectors. You also have to be a founder of the business and have actively worked in the company for five years, amongst other criteria.
There’s one more nugget for entrepreneurs: those who sell shares of a company into an employee ownership trust – a trust that holds shares of a corporation for employees to help facilitate the sale of that business to its staff – can receive a $10 million capital gains exemption when those shares are sold to the trust. The exemption is per business, rather than per individual, so a group of owners would only get a collective $10 million in tax exemptions when selling shares to the trust, explained Waters.
Changes to AMT
The budget also offered fresh thinking on the Alternative Minimum Tax (AMT), which caught a lot of attention last year as some feared the proposed changes would deter high-net-worth individuals from making major donations to charities. The AMT is a parallel tax calculation that allows fewer deductions, exemptions, and tax credits than under the ordinary income tax rules and applies a flat tax rate on this adjusted taxable income, with them paying either the AMT or regular tax, whichever is higher.
Under the original proposal, many individuals who made significant donations of shares of publicly traded companies could have been subject to AMT. To lessen the impact on donors, the budget proposes to now allow individuals to claim 80%, up from the previously proposed 50%, of the charitable donation tax credit when calculating AMT.
“The changes in this year’s budget will try and deal with some of those concerns and allow a larger donation tax credit for the purposes of that separate AMT calculation,” said Waters, who added that this update is probably the most notable change in the budget for the charitable sector. “So, a positive development there.”
Other announcements
Most of the other announcements were already known. That includes increasing the amortization period to 30 years from 25 years for new homeowners buying newly built houses, upping the amount people can take out of their RRSP for the Home Buyers’ Plan to $60,000 from $35,000, and offering $40,000 low-interest loans for those adding a secondary suite to an existing home.
Ultimately, the budget didn’t go far enough to address the productivity problems Canada has been having, said Porter, but for those upset about the capital gains hike, he noted it could have been worse. “There’s actually been some modest relief here,” he said. “The tax measures weren’t aimed specifically at corporations through so-called excess profit taxes, and there were no changes in marginal rates and no broad wealth tax measures, which had all been rumoured in the weeks and even the hours leading up to the budget.”
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