Category: Domestic Tax

New Legislation Released Increasing the Capital Gains Inclusion Rate in Canada

Posted on by RSM US LLP

Executive summary

On June 10, 2024, the Ministry of Finance announced amendments to the Income Tax Act to increase the capital gains inclusion rate effective June 25, 2024. Corporations and trusts will see an increase from 1/2 to 2/3, while individuals realizing capital gains of more than $250,000 will also be subject to the increased rate. The upcoming legislation will maintain the principal residence exemption, prohibit tax elections or on-paper realizations, and ensure that capital gains cannot be averaged over multiple years, among other measures.

Background

On June 10, 2024, the Ministry of Finance released a Notice of Ways and Means Motion (NWMM) to amend the Income Tax Act and Income Tax Regulations to implement the Budget 2024 initiative to increase the capital gains inclusion rate. Starting June 25, 2024, the capital gains inclusion rate was originally proposed to be adjusted as follows:

  • For corporations and trusts: The capital gains inclusion rate will be increased from 1/2 to 2/3.
  • For individuals: For capital gains that exceed an annual threshold of $250,000, the capital gains inclusion rate will be increased from 1/2 to 2/3.

The NWMM provides an overview of various measures introduced by the government to implement the higher capital inclusion rate proposed in the Budget 2024. This article will focus on measures impacting middle market taxpayers.

Little relief offered despite requests from numerous interested parties

In a related press release by the Department of Finance, certain suggestions put forth by interested regulatory parties were quelled, offering the following summary of the changes:

  • No changes to the principal residence exemption.
  • No ability to elect to internally trigger capital gains in anticipation of the June 25 deadline.
  • No ability to average capital gains over multiple years to stay under the $250,000 threshold.
  • No ability to split the $250,000 threshold with corporations.
  • No exceptions for specific assets or types of corporations.
  • No distinction based on how long an asset is held or otherwise.

On top of the summary above, the Department of Finance also released a more comprehensive summary of the changes.

New draft legislation
Transitionary rules for the new capital gains inclusion rate

The draft legislation acknowledged that the inclusion rate increase date of June 25, 2024, being in the middle of many ordinary taxation years, offers complications. As a result, the draft legislation introduces transitionary measures to identify how the inclusion rate will be applied based on a taxpayer’s individual circumstances. Firstly, the draft legislation separates out a taxation year between two relevant periods:

  • The beginning of the taxation year until the end of the day June 24, 2024 (“Period 1”); and,
  • The beginning of the day June 25, 2024 until the end of a taxpayer’s taxation year (“Period 2”)

Taxpayers would then need to net capital gains against capital losses for each period to determine whether that particular period yielded either a cumulative net capital gain or net capital loss. Then, the following capital gains inclusion rates would apply:

  • If a taxpayer only has net capital gains or net capital losses in Period 1 and Period 2, a 1/2 inclusion rate would apply for gains/losses incurred in Period 1 and a 2/3 inclusion rate would apply for gains/losses incurred in Period 2.
  • If a taxpayer has no net capital gains or net capital losses in either period, a 2/3 inclusion rate would apply for all gains/losses.
  • If a taxpayer has net capital gains in Period 1 that exceed net capital losses in Period 2, a 1/2 inclusion rate would apply for all gains/losses.
  • If a taxpayer has net capital losses in Period 1 that exceed net capital gains in Period 2, a 1/2 inclusion rate would apply for all gains/losses.
  • If a taxpayer has net capital gains in Period 1 that are less than net capital losses in Period 2, a 2/3 inclusion rate would apply to all gains/losses, to the extent not sheltered by the $250,000 threshold.
  • If a taxpayer has net capital losses in Period 1 that are less than net capital gains in Period 2, a 2/3 inclusion rate would apply for all gain/losses.

Interested parties should consider reading the draft legislation for specific timing considerations that may apply to their situation when trying to determine whether certain gains/losses arise during Period 1 or Period 2.

New $250,000 threshold for individuals

Individuals (excluding most trusts) will be able to shelter the first $250,000 of their capital gains to remain taxable at 1/2 even after June 24, 2024. This threshold would apply to all capital gains incurred on or after June 25, 2024 and will be net of any capital losses for the year, the lifetime capital gains exemption, the employee ownership trust tax exemption, and the proposed Canadian entrepreneurs’ incentive. This threshold will be algebraically determined by multiplying the threshold by 1/6 and allowed as a deduction from taxable capital gains, allowing for an effective 1/2 inclusion rate. Note that this threshold will not be prorated for 2024.

Capital gains reserves

Under certain circumstances, taxpayers are able to defer the recognition of capital gains in situations where the proceeds of the sale of capital property are received over a number of years. In these circumstances, a capital gain is realized in income with a reserve being taken based on the amount of proceeds that have not yet been received, with a minimum of 10% or 20% of the gain to be brought into income each year (depending on the type of asset sale and subject to the new draft intergenerational transfer rules). The reserve enters into taxable income in the following year.

For purposes of the capital gains inclusion rate change, reserves will be considered to enter into income on the first day of the taxation year. This means that taxation years that begin before June 25, 2024 will have that capital gain subject to a 1/2 inclusion rate. As the reserve enters into income in subsequent years, the prevailing capital gains inclusion rate for that year would apply (i.e., possibly 2/3). In other words, the capital gains inclusion rate on the actual date of sale does not get maintained as the reserve is utilized.

Net capital loss carryforwards

Net capital losses can be carried back three years and forward indefinitely to offset capital gains in other years, with adjustments made to reflect the applicable inclusion rate. For example, net capital losses incurred when the inclusion rate was 1/2 and utilized when the capital gains inclusion rate is 2/3 will be multiplied upwards to 4/3, in order to allow the relevant capital loss to offset an equivalent capital gain regardless of inclusion rates.

Employee stock option deduction

Under the current rules, when an employee exercises a stock option, the difference between the fair market value of the stock and its exercise price results in a taxable benefit (the “stock option benefit”) and is included in the employee’s income. Where the employer is a Canadian-controlled private corporation (CCPC), the stock option benefit arises at the time the shares are ultimately disposed of or exchanged by the employee. Generally, the taxation of employee stock options in Canada mirrors the taxation of capital gains and hence, the employees can claim a stock option deduction at the rate of 1/2 of the stock option benefit.

Consequent to the proposed amendment to the inclusion rate, the stock option deduction would be 1/3 of the stock option benefit for stock options exercised (or disposed of or exchanged in case of a CCPC) on or after June 25, 2024. The annual $250,000 limit described above would apply to the total amount of stock option benefit and capital gains for a particular taxation year. In a situation where the total stock option benefit and capital gains exceed $250,000, the taxpayer would have the discretion to choose the preferential tax treatment (lower inclusion rate) for allocating the amounts.

Allowable business investment losses

A business investment loss arises when bad debt arises on the amount owed by a small business corporation (SBC) or the shares of a bankrupt SBC are disposed of. 1/2 of the capital losses, referred to as allowable business investment losses (ABIL), can be used to offset other income like income from business, property, and employment. Any unused ABIL can be used to offset income from any source and can be carried back three years and carried forward 10 years. Any amount of ABIL remaining after 10 years gets converted to an ordinary capital loss that can be carried forward indefinitely and used to offset only capital gains.

With the increase in the capital gains inclusion rate, 2/3 of business investment losses realized on or after June 25, 2024, would be deductible. Furthermore, unlike other capital losses carried over, ABILs would not be adjusted in value to reflect the new inclusion rate that applies in the year the loss is claimed. In other words, ABILs realized on or after June 25, 2024 would be determined based on the 2/3 inclusion rate even if carried back and applied in any of the three previous years.

Partnership allocations and trust designations

Generally, partnerships calculate net income as if they are a taxable entity for Canadian tax purposes. The income is then allocated to the partners based on the partnership agreement. Capital gains earned in a partnership are typically transferred out as taxable capital gains for the year. For partnerships that have capital gains in a fiscal period that straddle June 25, 2024, those taxable capital gains, allowable capital losses, or ABILs will instead be grossed up back to the original amount and deemed to be realized by the relevant partner. Partnerships would be required to disclose to partners which gains arose during which period, to potentially allow access to the $250,000 threshold.

Trusts are taxable entities for Canadian tax purposes and compute taxable income accordingly. Trusts can allocate its income to beneficiaries at the end of the trust’s taxation year, and also preserve the character of the income for beneficiaries, to allow them to take advantage of various tax preferred treatments. For trust taxation years that straddle June 25, 2024, trusts would similarly gross-up their net capital gains back to their original amount and have them deemed to be recognized by the relevant beneficiary. Trusts would be required to disclose to those beneficiaries which gains arose during which period, with certain simplifying calculations for commercial trusts.

International tax adjustments

Certain international tax measures will be adjusted to be brought in line with the change in capital gains inclusion rate, including:

  • Computing the foreign accrual property income of a foreign affiliate and deductions for dividends received from a foreign affiliate’s hybrid surplus.
  • The withholding tax rate for non-residents disposing of taxable Canadian property will increase from 25% to 35%, effective for dispositions occurring on or after Jan. 1, 2025.
Only two weeks left for implementation

Overall, the changes to the capital gains inclusion rate and related measures remain largely unchanged from when they were originally announced in Budget 2024. Despite updated draft legislation being expected at the end of July, it is not expected to affect the new measures significantly. Taxpayers are only left with two weeks to finalize any tax planning they would like to implement prior to June 25, 2024, after which they should expect a significantly different tax landscape for capital gains in Canada.

This article was written by Daniel Mahne, Chetna Thapar, Patricia Contreras and originally appeared on 2024-06-10. Reprinted with permission from RSM Canada LLP.
© 2024 RSM Canada LLP. All rights reserved. https://rsmcanada.com/insights/tax-alerts/2024/new-legislation-increasing-capital-gains-inclusion-rate-canada.html

RSM Canada LLP is a limited liability partnership that provides public accounting services and is the Canadian member firm of RSM International, a global network of independent assurance, tax and consulting firms. RSM Canada Consulting LP is a limited partnership that provides consulting services and is an affiliate of RSM US LLP, a member firm of RSM International. The member firms of RSM International collaborate to provide services to global clients but are separate and distinct legal entities that cannot obligate each other. Each member firm is responsible only for its own acts and omissions, and not those of any other party. Visit rsmcanada.com/about for more information regarding RSM Canada and RSM International.

The information contained herein is general in nature and based on authorities that are subject to change. RSM Canada LLP guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. RSM Canada LLP assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein. This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer.

Short-Term Rentals: Denial of Expenses

Posted on by dflanagan

In late 2023, the Federal government announced its intention to deny income tax deductions for expenses by non-compliant operators of short-term rental properties (such as Airbnb or VRBO properties rented for periods of less than 90 days). These rules would apply to individuals, corporations, and trusts with non-compliant short-term rentals. These rules are proposed to come into effect on January 1, 2024.

A short-term rental would be noncompliant if, at any time, either:

  • the province or municipality does not permit the short-term rental operation at the location of the residential property; or
  • the short-term rental operation is not compliant with all applicable registration, licensing, and permit requirements.

Many municipalities require a business license or permit for short-term rental operations. Where short-term rental activities are carried on without such a permit, the operator would be subject to these proposals and taxable on gross rental revenues with no deductions in 2024 and later years.

Residential property would include a house, apartment, condominium unit, cottage, mobile home, trailer, houseboat, and any other property legally permitted to be used for residential purposes.

No expenses incurred with respect to the non-compliant short-term rental would be deductible. For example, consider a short-term rental that incurred $100,000 in expenses to generate $20,000 in profit. If non-compliant, all expenses would be denied, resulting in a profit for tax purposes of $120,000. Assuming the individual owner was in the top tax bracket (53.53% in Ontario), they would pay tax of $64,236. As the actual profit was only $20,000, the effective tax rate would be 321% ($64,236/$20,000). In absolute dollars, the individual would have to pay $53,530 in additional taxes due to the denied expenses.

Where the short-term rental was non-compliant for part of the year and compliant for another part of the year, the total expenses incurred for all short-term rental activity would be pro-rated over the period of that activity to determine the nondeductible portion.
For example, assume that a property was used for long-term rental from January 1 to June 30, then converted to short-term rental on July 1. However, the owner did not obtain a business permit as required until September 1 (62 days non-compliant). Expenses for July 1 to December 31 (the short-term rental period, 184 days) would be 62/184 non-deductible. Expenses related to the long-term rental period would not be part of the calculation of non-deductible expenses.

Transitional rule

For the 2024 taxation year, if the taxpayer is compliant with all applicable registration, licensing, and permit requirements on December 31, 2024, they would be deemed compliant for the entire 2024 year and, as such, would be able to deduct all relevant expenses for 2024.

Ensure you comply with all municipal and provincial rules by December 31, 2024, to retain all deductions applicable to your short-term rental for the year.

GST/HST Returns: Mandatory Electronic Filing

Posted on by dflanagan

For reporting periods that begin in 2024 and onwards, GST/HST registrants (except charities and selected financial institutions) must file all GST/HST returns with CRA electronically. Registrants who file their GST/HST returns on paper are subject to a penalty of $100 for the first offense and $250 for each subsequent return not filed electronically. While CRA waived these penalties for monthly and quarterly filers who failed to file returns electronically for periods beginning before March 31, 2024, the relief will end shortly.

Ensure that GST/HST returns are properly filed electronically to avoid these penalties.

What do the proposed Alternative Minimum Tax changes mean for charitable giving?

Posted on by RSM US LLP

Authored by RSM Canada

Executive summary

Individuals and trusts who benefit from tax deductions, credits and exemptions may find themselves paying a higher rate of tax under the Alternative Minimum Tax (AMT) regime. The 2023 and 2024 Federal Budgets proposed changes to the calculation of AMT by limiting the inclusion rates of some significant deductions and credits, including charitable donations.

What is AMT?

For each taxation year, individual taxpayers and certain trusts calculate their taxes payable under two methods: regular income tax and AMT. The method which yields the higher taxes payable determines the amount the taxpayer owes for the year. Compared to the regular income tax method, the AMT limits the ability to offset income earned with certain eligible deductions and credits. Typically, AMT applies in situations where high-income taxpayers substantially lowered their taxes payable due to deductions and credits.

If a taxpayer is subject to AMT in a given year, the difference between the amount calculated under the AMT method and the amount calculated under the regular tax method can be carried forward for seven years. The carry forward is treated as a credit against taxes payable calculated under the regular tax method.

Charitable Donations under the Current AMT regime

Under the regular tax system, taxpayers that make donations of publicly listed securities receive a tax receipt for the fair market value of the securities donated and an exemption on any applicable taxes on the accrued capital gain of those donated securities.

Similarly, under the current AMT regime, charitable giving does not have an impact on the AMT calculation as:

  • the full amount of all donation tax credits can be fully applied against any AMT owing and;
  • the full capital gains from donating public securities are excluded in calculating AMT owing

For high income taxpayers, the current method allows them to shelter potentially large accrued gains on the donation of publicly traded securities, as opposed to donating an equivalent cash amount.

Charitable Donations under the Proposed AMT regime

The following changes will be effective Jan. 1, 2024.

The federal government has proposed to increase the AMT flat rate from 15% to 20.5% when calculating adjusted taxable income. Moreover, it is proposed to concurrently raise the AMT exemption threshold, being the amount of adjusted taxable income to which AMT does not apply, from $40,000 to $173,000. This should result in fewer Canadians being subject to AMT.

Alongside the increased rate and exemption base, the treatment of charitable donations is proposed to be changed so that:

  • an increase in the inclusion of capital gains realized on the donation of qualifying securities from 0% to 30%, and,
  • A decrease in the recognition of the donation tax credit from 100% to 80%

For large donations of publicly traded securities, taxpayers may now find themselves with an AMT payable, when previously any accrued gains would have been exempt.

Impact on Taxpayers

The proposed changes to charitable donations will likely have a significant impact on how taxpayers subject to the new AMT make donations going forward.

Consider a taxpayer (below) that wants to make a significant donation of publicly traded securities with a large accrued capital gain. Under the proposed changes, the capital gain inclusion rate for the donated property is 30% alongside limiting the donation tax credit to 80%. This increases the taxpayer’s tax liability that they will have to personally fund even when no consideration has been received for the donated property and may result in taxpayers being less inclined to donate as a result.

Current AMT

Proposed AMT

Earned Income

1,000,000

1,000,000 (A)

Capital Gain on donated public securities

500,000

500,000

Taxable Capital Gain on donated public securities

–

150,000 (B)

Adjusted Taxable Income

1,000,000

1,150,000 (A+B)

Basic AMT exemption

(40,000)

(173,000)

Taxable Income

960,000

977,000

AMT rate

15%

20.5%

144,000

200,285

Donation Tax Credit

(165,000)

(132,000)

(21,000)

68,285

Planning Strategies

Taxpayers that consider donating significant cash or property on an annual basis need to start planning ahead to determine if these donations will result in any AMT being payable.

Perform charitable giving through a corporation

Taxpayers may consider donating publicly traded shares with accrued capital gains through a corporation, as AMT is not applicable at the corporate level. This may be advantageous as the tax-free amount of the capital gain of the donation of public securities will be added to the corporation’s Capital Dividend Account (CDA) and can be distributed to shareholders on a tax-free basis.

Spreading out the donations

Taxpayers may consider donating smaller amounts over the span of several years as opposed to one large lump-sum. This could help limit the amount calculated under the AMT method in a given year.

Managing taxable income

If taxpayers have the flexibility to do so, they may consider managing their income in future years to ensure they can get a credit from any tax paid under AMT that can be applied against regular income tax for up to seven years.

Charitable giving at death

AMT does not apply in the year of death. Taxpayers may consider charitable giving through their will at death to avoid AMT but still create the positive impact of giving.

This article was written by Farryn Cohn and originally appeared on 2024-05-29. Reprinted with permission from RSM Canada LLP.
© 2024 RSM Canada LLP. All rights reserved. https://rsmcanada.com/insights/tax-alerts/2024/proposed-alternative-minimum-tax-changes.html

RSM Canada LLP is a limited liability partnership that provides public accounting services and is the Canadian member firm of RSM International, a global network of independent assurance, tax and consulting firms. RSM Canada Consulting LP is a limited partnership that provides consulting services and is an affiliate of RSM US LLP, a member firm of RSM International. The member firms of RSM International collaborate to provide services to global clients but are separate and distinct legal entities that cannot obligate each other. Each member firm is responsible only for its own acts and omissions, and not those of any other party. Visit rsmcanada.com/about for more information regarding RSM Canada and RSM International.

The information contained herein is general in nature and based on authorities that are subject to change. RSM Canada LLP guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. RSM Canada LLP assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein. This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer.

The 7 Most Common HST Audit Issues

Posted on by Edixon

GST/HST (aka Commodity Tax) can be complex and confusing if not dealt with by a knowledgeable professional. Oversights may trigger an audit and unnecessary penalties/interest assessed by the CRA. 

We’ve compiled a list of the most common audit issues that we’ve seen below:

  1. Claiming Input Tax Credits (ITCs) without proper documentation (see criteria table for specifics)
    • Ensure that the vendor’s GST/HST number is always on the invoice, if not, ask for another to be prepared.
    • Do not use credit card statements as your support. It is not considered acceptable proof for the CRA.
    • Also, the CRA does not allow amendments where the sole purpose is to claim additional ITCs – any additions must be claimed on a future return.
  2. Invoices made out to the wrong company
    • Holding company invoices cannot be claimed by the operating company.
  3. Intercompany transactions – Section 156 elections and form RC4616
    • Section 156 elections cannot be filed solely based on a controlling interest.
    • Most situations require 90% ownership (parent/sub).
  4. Claiming ITCs when a portion of the related revenue is exempt
    • Exempt income does not require GST/HST to be charged however no corresponding ITCs can be claimed on related expenses.
  5. Self-assessment errors on acquisition of real estate (two scenarios to be mindful of)
    a. If the real estate acquisition is primarily used for taxable activities (e.g. commercial) – full ITCs can be claimed and the amount of HST owing would be nil. If a self-assessment is not completed, the CRA can reassess and add the HST due on the HST return. Thus, not having the ability to amend a return to add additional ITCs can result in significant cash flow issues and interest assessed by the CRA.
    b. If the real estate acquisition is used for exempt activities (e.g. long-term residential) then no ITCs can be claimed and HST would be owed. In this scenario, if a self-assessment is not completed, the CRA can also reassess and include interest (same as scenario a).
  6. Claiming 100% ITCs on meals/entertainment and passenger vehicles
    • Meals/entertainment claims are only eligible at 50% of the ITCs.
    • Passenger vehicle ITCs are capped at the GST/HST on $37,000 capital cost.
  7. Failure to charge/collect GST/HST on the sale of assets
    • Commodity tax registrants are required to charge GST/HST when selling an asset used for commercial purposes.

If your business is faced with a Commodity Tax audit, we can help.  Please contact one of our taxation specialists.

 

Farm Losses can be Restricted: May Apply Even When Significant Time and Cash is Invested

Posted on by dflanagan

A November 8, 2023, Tax Court of Canada case considered whether a taxpayer’s losses from farming activities deductible against non-farming income were restricted to the $17,500 ($2,500 plus half of the next $30,000) permitted by the restricted farm loss rules for the 2014 and 2015 years. The restriction applies where the taxpayer’s chief source of income for a taxation year is neither farming nor a combination of farming and some other source of income that is a subordinate source of income for the taxpayer.

The taxpayer was a physician but also operated a farm that produced organic beef. The taxpayer provided the following relevant details. (See chart below.)

  Medical Practice Farming
Gross Revenue $805,321 – 2014

$851,621 – 2015

 $174,433 – 2014

$31,128 – 2015
Net Income (loss $648, 480 – 2014 $697,050 – 2015 ($530,363) – 2014 ($595,904) – 2015
Staff Employed Three part-time employees Four full-time employees and three seasonal part-time employees
Taxpayers’ Work Schedule Commenced work on weekdays between 7 am and 9 am and ended between 2 pm to 5 pm Five hours/day on weekdays (before and after performing physician duties) and 8-16 hours/day on the weekends
Hours Worked by Taxpayer (approx.) 1,900 hours/year 2,500 hours/year
Capital Investment There were no significant assets. The operating facilities were rented for $250/year from the municipality, likely as an incentive to maintain a local physician. The operation included over 800 head of cattle, 5,314 acres of land, three large shelter and storage buildings, a building for processing meat, two more buildings under construction, and various pieces of equipment such as tractors, trucks, and haying equipment.
History The taxpayer commenced a continually profitable practice as a physician in 1975. The farming operation commenced shortly after 1975. Various different crops/ products were attempted. Losses were reported in all years but two.
Taxpayer loses

The Court noted that the taxpayer’s farm activities took place before and after normal working hours and gave way to her medical practice if an issue arose that required her attention. As such, the Court found that the centre of the taxpayer’s routine was her medical practice. Further, the Court noted that the farm was only commenced after the medical practice and that all of the investment in the farm came from the medical practice. The farm required the cash inflow of the medical practice to survive. The farming business had always been subordinate to the medical practice as a source of income, rather than the other way around, and there was no demonstration that this would change in the foreseeable future. As such, the Court determined that the restricted farm loss rules would apply and the taxpayer’s deduction would be limited to $17,500.

Court’s additional commentary

The Court noted that the result was most unfortunate as it resulted in the denial of a loss for a bona fide farming business that would have been available to the operator of any other business. In particular, the Court noted how this case demonstrated the difficulty in growing a viable farming business with the current restricted farm loss rule punishing those willing to put in the significant time and capital required to do so.

ACTION: If farming activities consume a significant portion of your resources but you earn income from other significant sources as well, seek consultation to determine if farming losses may be restricted.

Plan ahead to overcome increased capital gains inclusion rate

Posted on by RSM US LLP

Authored by RSM Canada

Executive summary

Effective June 25, 2024, Federal Budget 2024 proposed to increase the capital gains inclusion rate from 50% to 66.67%. The increased rate will lead to a higher tax liability for taxpayers owning assets such as shares, bonds, multiple properties etc. upon disposal of such assets with a realization of a capital gain. Individuals with excess capital gains above the annual threshold of $250,000 are to be taxed at a higher rate. However, for corporations and trusts, the higher rate will apply to all the capital gains beginning the proposed date. As the effective date of the amendment is just few weeks away, taxpayers need to be proactive and undertake tax planning and optimization strategies to make sure that the higher rate doesn’t come as a surprise to them later on.

Plan ahead to overcome increased capital gains inclusion rate

Background

Canada’s 2024 Federal Budget (Budget 2024), tabled on April 16, 2024, introduced significant changes to the taxation of capital gains. Among these changes, the most notable is the increase in the inclusion of capital gains in taxable income, which under the current rules provides a 50% inclusion rate.

Taxpayers owning assets like stocks, bonds, rental properties, a secondary home, or even business equipment will be impacted by the amendment if they dispose of such assets and realize a capital gain.

Capital gains arising from the sale of the principal residence will not be impacted by the proposed amendment and will remain tax-free.

Proposed inclusion rate changes in Budget 2024

Budget 2024 proposes to amend the capital gains inclusion rate for capital gains realized on or after June 25, 2024, as below:

Type of taxpayer

Proposed Budget 2024 changes

Corporations
and Trusts

The capital gains inclusion rate will be increased from 50% to 66.67%.

Individuals

For capital gains that exceed an annual threshold of $250,000, the capital gains inclusion rate will be increased from 50% to 66.67%

The $250,000 annual threshold would apply to current year capital gains net of:

  • Current year capital losses
  • Capital losses of other years applied to reduce current year capital gains
  • Capital gains in respect of which the individual claimed the lifetime capital gains exemption, the proposed employee ownership trust exemption, or the proposed Canadian entrepreneurs’ incentive

The value of net capital losses from previous years will be adjusted to align with the inclusion rate applicable to the capital gains being offset.

To facilitate the amendment, transitional rules will apply to taxation years that begin before and end on or after June 25, 2024:

  • Capital gains realized before June 25, 2024 would be subject to the 50% inclusion rate; and,
  • Capital gains realized on or after June 25, 2024 would be subject to a 66.67% inclusion rate.

The proposed transitional rules will ensure that the $250,000 threshold is not prorated in 2024 and will apply only against capital gains realized on or after June 25, 2024.

Budget 2024 also proposes to amend the taxability of the employee stock options (ESO). Generally, the taxation of ESOs in Canada mirrors the taxation of capital gains, except if the ESO relates to certain large corporations. Under the current rules, employees are generally entitled to a deduction of 50% of the taxable benefit arising from the qualifying stock options, resulting in a net 50% inclusion of the ESO taxable benefit in the taxable income. However, with the proposed amendment, the ESO deduction will also be reduced from 50% to 33.33%, to the extent that both the ESO taxable benefit and capital gains exceed $250,000.

Tax implications

The increase in the capital gains inclusion rate will change the effective rate of tax on the capital gains realized by the taxpayers on or after June 25, 2024. The effective change in tax rates due to these proposed changes is summarized below:

Current taxation rates (Ontario)

Individuals in the highest
marginal tax bracket

Non-Canadian-controlled
private corporation (CCPC)
corporations

Tax rate on ordinary income

53.53%

26.50%

Tax rate on capital gains [A]

26.77%

13.25%

Proposed taxation rates (Ontario)

Individuals in the highest
marginal tax bracket

Non-CCPC corporations

Tax rate on ordinary income

53.53%

26.50%

Tax rate on capital gains* [B]

35.69%

17.67%

Percentage increase in tax rates due to proposed rules
[B] – [A]

8.92%

4.42%

*For individuals, this rate applies to capital gains in excess of the proposed $250,000 threshold. For capital gains of $250,000 or less, the highest marginal tax rate would remain the same at 26.77%.

Planning opportunities

RSM can assist taxpayers in taking proactive measures before the proposed capital gains inclusion rules take effect on June 25, 2024 to minimize tax on capital gains. Examples of planning opportunities in light of the amendment can include:

Accelerating transaction timelines (e.g., sales, reorganizations, estate freezes, etc.)

Taxpayers who are currently in the process of selling a capital asset such as business equipment, stocks, or undertaking a corporate reorganization/estate freeze may consider accelerating the timeline of their transactions to close before June 25, 2024. Business owners considering an intergenerational transfer of their business under the rules introduced by Bill C-208 may want to consider closing before June 25, 2024.

Preparing tax plans and/or reviewing current draft plans will ensure the optimal timing of transactions.

Crystalizing capital gains before June 25, 2024 and utilizing tax attributes or exemptions

Where it is not feasible for taxpayers to accelerate the timelines of their transactions, taxpayers may consider crystallizing the inherent capital gains before June 25, 2024. Mitigation strategies such as the lifetime capital gains exemption or maximizing the utilization of carry-forward capital loss balances should be assessed to minimize the taxes on capital gains.

Maximizing carrybacks of capital losses – now vs. defer?

The value of net capital losses from previous years will be adjusted to align with the applicable inclusion rate. Therefore, taxpayers may wish to consider deferring the utilization of losses carried forward over the next few years as they will be more valuable when used against the capital gains realized at a higher rate. Modeling the utilization of carry-forward capital losses for future years can be undertaken to minimize anticipated tax costs.

Optimal structure of holding capital assets – corporations, individuals, trusts, partnerships, or a combination thereof?

Individuals who do not expect to earn capital gains exceeding the $250,000 threshold may want to consider holding their investments directly rather than a corporation as corporations will not have a minimum threshold under the proposed changes. Actions to take now include modeling the optimal structure of holding assets considering future capital gains, capital loss balances, and/or exemptions.

Revisiting estate plans

Budget 2024 was notably silent on whether any exceptions will be made for capital gains arising on death under the proposed changes. Generally, the death of a taxpayer triggers the deemed disposition of all the taxpayer’s assets at fair market value, resulting in realized capital gains. Consequent to the amendment, such deemed disposition will lead to higher taxes on death. Individuals should revisit existing estate plans in light of the higher inclusion rate to account for the increased tax liability upon death.

Only 8 weeks left to plan

The capital gains amendment underscores the need for preemptive tax planning. Although no legislation currently exists and the proposed changes may undergo further revisions, the new rules are proposed to be effective in less than two months. This leaves a short window for taxpayers to assess their portfolios, explore tax-optimization opportunities, and strategize their next course of action.

This article was written by Patricia Contreras, Daniel Mahne, Chetna Thapar and originally appeared on 2024-04-26. Reprinted with permission from RSM Canada LLP.
© 2024 RSM Canada LLP. All rights reserved. https://rsmcanada.com/insights/tax-alerts/2024/plan-ahead-to-overcome-increased-capital-gains-inclusion-rate.html

RSM Canada LLP is a limited liability partnership that provides public accounting services and is the Canadian member firm of RSM International, a global network of independent assurance, tax and consulting firms. RSM Canada Consulting LP is a limited partnership that provides consulting services and is an affiliate of RSM US LLP, a member firm of RSM International. The member firms of RSM International collaborate to provide services to global clients but are separate and distinct legal entities that cannot obligate each other. Each member firm is responsible only for its own acts and omissions, and not those of any other party. Visit rsmcanada.com/about for more information regarding RSM Canada and RSM International.

The information contained herein is general in nature and based on authorities that are subject to change. RSM Canada LLP guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. RSM Canada LLP assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein. This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer.

Federal Budget Commentary 2024

Posted on by ssiconolfi

Canada’s 2024 Federal Budget (Budget 2024), delivered by Deputy Prime Minister and Finance Minister Chrystia Freeland on April 16, 2024, addresses critical economic challenges faced by Canadians and businesses.

Audit & enforcement measures

The government announced a variety of targeted anti-avoidance measures to enhance the CRA’s compliance efforts and enforcement actions.

Enhancing CRA’s information gathering capabilities

To address concerns of the CRA’s effectiveness in compliance and enforcement actions, Budget 2024 proposes to amend several information gathering provisions in the ITA, the Excise Tax Act (ETA), and other legislation administered by the CRA. These amendments would come into force on royal assent of the enacting legislation.

Notice of non-compliance

Budget 2024 proposes to allow the CRA to issue a new type of notice called a “notice of non-compliance” to a person that has not complied with a requirement, or a notice to provide assistance or information, issued by the CRA. Where a notice of non-compliance has been issued, a penalty would be applied equal to $50 for each day that the notice is outstanding to a maximum of $25,000. The government also proposes to extend the period to reassess a taxation year where a notice of non-compliance is outstanding for a taxpayer or a person that does not deal at arm’s length with the taxpayer.

If a taxpayer disagrees with the issuance of a notice of non-compliance, it would be reviewable by the CRA and could be vacated if the CRA determines that it was unreasonable to issue the notice or that the person had reasonably complied with the initial requirement. There will also be a further statutory right of review by the Federal Court.

Questioning under oath

Budget 2024 proposes to amend the ITA to allow the CRA to include in a requirement or notice that any required information in written, oral or document form, be provided under oath or affirmation.

Penalty upon compliance orders

To encourage compliance with CRA information requests, Budget 2024 proposes to impose a penalty when the CRA obtains a compliance order from the court against a taxpayer. The penalty would be equal to 10% of the aggregate tax payable by the taxpayer in respect of the taxation year(s) to which the compliance order relates. The penalty would only be applied if the tax owing in respect of one of the taxation years to which the compliance order relates exceeds $50,000.

Budget 2024 further proposes an amendment to allow the CRA to seek a compliance order when a person has failed to comply with a requirement to provide foreign-based information or documents.

Stopping the reassessment limitation clock

Budget 2024 proposes to extend the CRA’s period to reassess a taxpayer when the taxpayer seeks judicial review of any requirement or notice issued to the taxpayer related to the audit and enforcement process, or during any period that a notice of non-compliance is outstanding. The period to reassess would end when the judicial review is disposed of. Similar rules would apply where a requirement or notice has been issued to a person that does not deal at arm’s length with the taxpayer. These rules are similar to those proposed under the notice of non-compliance.

Stopping the avoidance of tax debts

The ITA includes an anti-avoidance rule which prevents taxpayers from avoiding paying their tax liabilities by transferring their assets to non-arm’s length persons. The effect of this tax debt avoidance rule is to make the transferee jointly and severally, or solidarily liable with the transferor for the transferor’s tax debts less any consideration given by the transferee for the property. Some taxpayers have attempted to circumvent this rule by transferring assets to a third-party first.

Budget 2024 proposes to expand this rule and have it apply where:

  • there has been a transfer of property from a tax debtor to another person;
  • as part of the same transaction or series of transactions, there has been a separate transfer of property from a person other than the tax debtor to a transferee that does not deal at arm’s length with the tax debtor; and,
  • one of the purposes of the transaction or series is to avoid joint and several, or solidary liability.

Budget 2024 proposes to penalize third-party advisors who assist with these schemes by imposing a penalty equal to the lesser of:

  • 50% of the tax that is attempted to be avoided; and,
  • $100,000 plus any amount the person, or a related person, is entitled to receive or obtain in respect of the planning activity.

Budget 2024 also proposes that taxpayers who participate in tax debt avoidance planning be jointly and severally, or solidarily liable for the full amount of the avoided tax debt, including any portion that has effectively been retained by the planner.

These rules are proposed to apply to transactions or series of transactions that occur on or after April 16, 2024. The federal government also intends to make similar amendments to other federal provisions, such as those under the ETA, the Select Luxury Items Tax Act, and the Underused Housing Tax Act.

Clarifying penalties related to the MDR

Under the ITA, a person who fails to file or make a return, or comply with certain specified rules, is guilty of an offence and liable for penalties up to $25,000 and imprisonment up to a year. Budget 2024 announces the government’s intention to exempt the failure to report a reportable or notifiable transaction from this penalty. This amendment would be deemed to have come into force on June 22, 2023.

Business tax

Budget 2024 proposes to increase the capital gains inclusion rate for corporations from 50% to 66.67% while also providing accelerated write-offs for eligible purpose-built rental housing and productivity-enhancing assets.

Increase to the capital gain inclusion rate for corporations

For tax years that begin after June 25, 2024, Budget 2024 proposes to increase the capital gains inclusion rate for corporations from 50% to 66.67%. Any net capital losses carried forward are adjusted to their value to reflect the inclusion rate of the capital gains being offset. As a result, any capital losses realized before the rate change would fully offset an equivalent capital gain after the rate change.

Introduction of new accelerated capital cost allowance rates

The capital cost allowance (CCA) system provides a deduction for businesses each year in respect of the capital cost of its depreciable property. Depending on the nature of the depreciable property, different CCA depreciation rates are used.

Eligible purpose-built rental housing

Budget 2024 proposes an accelerated CCA rate of 10% for new eligible purpose-built rental projects that begin construction on or after April 16, 2024, and before Jan 1, 2031, provided the building is made available for use before Jan. 1, 2036. New purpose-built rental housing includes residual complexes with at least four private apartment units or 10 private rooms/suites. Additionally, at least 90% of the residential units must be held for long-term rental.

Projects that convert existing non-residential real estate into a residential complex or costs incurred to create a new addition to an existing structure are eligible for the accelerated CCA rate. Renovations of existing residential complexes would not be eligible.

Productivity-enhancing assets

Budget 2024 proposes a 100% first-year deduction for property that is acquired on or after April 16, 2024 and becomes available for use before Jan 1, 2027 in respect of patents, data network infrastructure equipment, and general-purpose electronic data-processing equipment. The immediate expensing will only be available in the year the property becomes available for use.

Canada carbon rebate for small businesses

Currently, the federal government implements a fuel charge in various provinces and returns a portion of these proceeds to the public via the Canada Carbon Rebate and a refundable tax credit for farmers. Budget 2024 proposes to return the remainder of fuel charge proceeds to small and medium-sized business through the new Carbon Rebate for Small Businesses.

The Carbon Rebate for Small Businesses will be available to certain CCPCs for the 2019-20 to 2023-24 fuel charge years provided their tax return for the 2023 taxation year is filed by July 15, 2024. For the 2024-25 fuel charge year onwards, similar filing criteria would need to be met.

Mutual fund corporation changes

Mutual fund corporations are afforded various tax benefits, including not being subject to mark-to-market taxation and being able to elect capital gains treatment on the disposition of Canadian securities.

Budget 2024 proposes amendments to preclude a corporation from qualifying as a mutual fund corporation where it is controlled by or for the benefit of a corporate group. Exceptions would be provided to ensure that the measure does not adversely affect mutual fund corporations that are widely held pooled investment vehicles.

This measure would apply to taxation years that begin after 2024.

Removing an exception under synthetic equity arrangements

The ITA allows a corporation to deduct the amount of any dividends received on a share of a corporation resident in Canada, subject to certain limitations. Where a taxpayer enters into a synthetic equity arrangement, the taxpayer is generally obligated to compensate the other person for the amount of any dividends paid on the share. This compensation payment may result in a tax deduction for the taxpayer in addition to the dividend received deduction in certain situations involving a tax-indifferent investor.

Budget 2024 proposes to remove the tax-indifferent investor exception, thereby disallowing the deduction under those certain situations. This measure would apply to dividends received on or after Jan. 1, 2025.

Restricting the manipulation of bankruptcy status

The ITA exempts bankrupt taxpayers from the general debt forgiveness rules. Instead, a separate loss restriction rule applies to extinguish the losses of bankrupt corporations that have received an absolute order of discharge.

To prevent the manipulation of the bankrupt status of an insolvent corporation to benefit from the exception of the debt forgiveness rules while simultaneously avoiding the loss restriction rule, Budget 2024 proposes to repeal the loss restriction rule and the exception to the debt forgiveness rules and applicable to bankrupt corporations. The bankruptcy exception to the debt forgiveness rules would remain in place for individuals.

These proposals would apply to bankruptcy proceedings that are commenced on or after April 16, 2024.

Taxing vacant land

Budget 2024 announces that a new tax on residentially zoned vacant land is being considered. Consultations will be launched later this year.

Credits and incentives

Budget 2024 introduces, elaborates, and expands on the clean economy tax credits and reinforces the government’s commitment to modernizing the scientific research & experimental development program.

Clean electricity investment tax credit

Budget 2024 provides details on the previously announced clean electricity investment tax credit (ITC), offering a 15% refundable credit on the capital cost of eligible property. The eligible property must be acquired and become available for use on or after April 16, 2024 and before 2035. The property cannot have not been used for any purpose before its acquisition or be part of a project that began construction before March 28, 2023.

The ITC will be available to Canadian corporations, including those exempt from tax, as well as provincial and territorial Crown corporations (provided they commit to a net-zero electricity grid by 2035). Additionally, corporations can claim their share of the credit from a partnership. The list of eligible property includes equipment used to generate electricity from “green” sources (e.g., solar, geothermal) as well as to store and to transmit electricity between provinces and territories.

For expenditures that qualify for multiple clean economy ITCs, such as the clean technology ITC or the carbon capture, utilization, and storage ITC, eligible corporations will be able to claim one of the credits. However, more than one credit may be claimed in respect of the same project, albeit on separate expenditures. The credit rate will be reduced by 10% if the claimant does not comply with certain labour requirements (i.e., a prevailing wage and apprenticeship requirement) contained in Bill C-59.

Amendments to the Clean Technology Manufacturing Investment Tax credit

The clean technology manufacturing ITC (CTMITC) is a refundable ITC that was proposed in Budget 2023. Budget 2024 proposes amendments to better allow projects engaged in the production of multiple metals to qualify for the credit.

Some of these changes include:

  • clarifying that the value of qualifying materials that will be used to assess the extent to which property is used or is expected to be used for qualifying mineral activities;
  • expanding eligible expenditures to include investments in eligible property used in qualifying mineral activities that are expected to produce primarily qualifying materials at mine or well sites; and,
  • adjust the calculation of recapture of the ITC to account for a five-year historical average mineral price to limit the impact of market volatility.
Electric vehicle supply chain investment tax credit

Budget 2024 announces the intention to introduce a new 10% electric vehicle (EV) supply chain ITC on the cost of buildings involved in the EV supply chain. To claim the credit, the taxpayer or related party must claim the proposed CTMITC across all three of the following supply chain segments:

  • electric vehicle assembly;
  • electric vehicle battery production; and,
  • cathode active material production.

An exception to claim the proposed CTMITC in only two of the three segments above is available under certain circumstances.

The EV ITC will apply to property acquired and available for use on or after Jan. 1, 2024. The credit rate will be reduced to 5% for 2023 and 2024 and will no longer be in effect after 2034.

Scientific research & experimental development

On Jan. 1, 2024, the federal government launched consultations to modernize scientific research & experimental development (SR&ED) tax incentives. The government sought feedback on cost-neutral ways to enhance SR&ED to better support innovative businesses and drive economic growth. Budget 2024 announced a second phase of consultations to consider specific policy parameters including consideration of extending the enhanced tax credit to Canadian public companies.

International tax

Budget 2024 introduces significant reporting requirements for crypto-asset services providers in Canada and provides the CRA the ability to waive withholding requirements for payments to non-residents who provide services in Canada.

Crypto-Asset Reporting Framework

The Common Reporting Standard (CRS) requires Canadian financial institutions to report information on financial accounts held in Canada by non-residents to the CRA.

For the 2026 and subsequent calendar years, Budget 2024 proposes to implement a Crypto-Asset Reporting Framework (CARF) into the Income Tax Act (ITA). The CARF would impose a new annual reporting requirement on Canadian-resident entities and individuals, as well as any other entities or individuals that carry on business in Canada, that provide business services effectuating exchange transactions in crypto-assets.

The policy behind this measure is to address evolving financial markets, wherein crypto assets (e.g., stablecoins or non-fungible tokens) can be transferred or held without interacting with traditional financial intermediaries and, as a result, do not need to be reported under the CRS.

Crypto-asset service providers would include crypto exchanges, crypto asset brokers and dealers, and operators of crypto-asset automated teller machines. Crypto-asset service providers would be required to report to the CRA, in respect of each customer and in respect of each crypto-asset, the annual value of:

  • Exchanges between the crypto-asset and fiat currencies;
  • Exchanges for other crypto-assets; and,
  • Transfers of the crypto-asset, including transfers from a customer to a merchant in exchange for goods or services, in excess of USD$50,000, where the crypto-asset service provider processes payments on behalf of the merchant.

Further, crypto-asset service providers are required to obtain and report detailed information on each of their customers.

Withholding tax on non-resident service providers

Persons who pay a non-resident for services provided in Canada are required to withhold 15% of the payment and remit it to the CRA. Non-residents who do not have a permanent establishment in Canada, operate international shipping services, or operate an aircraft in international traffic services, are generally exempt from Canadian tax under an applicable tax treaty. Currently, non-resident service providers who do not owe Canadian tax may either apply for a refund of the withheld amounts or apply to the CRA in advance for a waiver.

Budget 2024 proposes to allow the CRA to waive the withholding requirement on multiple transactions with a single waiver, over a specified period, for payments made to a non-resident service provider if:

  • The non-resident would not be subject to Canadian income tax in respect of the payments because of a tax treaty; or,
  • The income is exempt due to international shipping or from operating an aircraft in international traffic.

The measure would come into force upon royal assent.

EIFEL exemption for new purpose-built rental housing

The excessive interest and financing expense limitation (EIFEL) rules, currently before Parliament in Bill C-59, limits the deduction of interest and financing expenses (IFE) to a fixed percentage of a taxpayer’s earnings before interest, taxes, depreciation, and amortization.

The EIFEL rules provide an exemption for IFE incurred in respect of arm’s length financing for certain public-private partnership infrastructure projects.

Budget 2024 proposes expanding this exemption to include an elective exemption for IFE incurred before Jan. 1, 2036, in respect of arm’s length financing used to build or acquire eligible purpose-built rental housing.

Indirect tax

Extending GST relief to student residences

Since university and college student housing are not considered long-term residences, new student housing could not qualify for the enhanced (100%) GST rental rebate. Budget 2024 proposes to amend the rules to apply the normal GST/HST rules that apply to other builders (i.e., paying GST/HST on the final value of the building) to new student housing projects. New rebate conditions would allow student housing provided by universities, public colleges, and school authorities that operate on a not-for-profit basis to qualify for the 100% rebate. The relaxed rebate conditions would not be extended to universities, public colleges, and school authorities that operate on a for-profit basis.

The amendments apply to student housing projects that began construction after Sept. 13, 2023, and before 2031, provided that construction is completed before 2036.

Imposing GST on masks

Budget 2024 proposes to repeal the temporary zero-rating of certain face masks or respirators and certain face shields under the GST/HST. This measure would apply to supplies made on or after May 1, 2024.

Tobacco and vaping product taxation and importation

Budget 2024 proposes to increase the tobacco excise duty rate by $4 per carton of 200 cigarettes, along with corresponding increases to the excise duty rates for other tobacco products such as cigarettes, manufactured tobacco, and cigars. The total rate of $5.49 includes the automatic inflationary adjustment of $1.49 per carton of 200 cigarettes that took effect on April 1, 2024.

Inventories of cigarettes held by certain manufacturers, importers, wholesalers, and retailers at the beginning of the day on April 17, 2024, would be subject to an inventory tax of $0.02 per cigarette (subject to certain exemptions) to account for the $4 increase. Taxpayers would have until June 30, 2024, to file a return and pay the cigarette inventory tax.

Additionally, Budget 2024 proposes to provide a new prescribed limit of up to 2500 grams of packaged raw leaf tobacco for importation for personal use, along with a consequential amendment to the definition of “packaged” for raw leaf tobacco. This measure would come into force on the first day of the month following royal assent.

Budget 2024 also announces the Government’s intention to increase the vaping product excise duty rate by 12% to come into force on July 1, 2024.

Private Business

While Budget 2024 introduces and expands on various capital gains exemptions, the government proposes an increase in capital inclusion rates from 50% to 66.67% for individuals with capital gains in excess of $250,000 and for all capital gains earned by trusts.

Increase to the capital gain inclusion rate for individuals and trusts

Budget 2024 proposes an increase to the capital gains inclusion rate on capital gains above $250,000 annually for individuals and all capital gains realized for trusts from 50% to 66.67% effective June 25, 2024. This $250,000 threshold will be realized net of any current-year capital losses as well as capital losses from prior years applied to reduce current-year capital gains. The threshold will also account for any reductions to net capital gains in respect of the lifetime capital gains exemption (LCGE), proposed employee ownership trust capital gains exemption, and the newly proposed Canadian entrepreneurs’ incentive. Net capital losses from prior years will continue to be deductible against current-year taxable capital gains by adjusting their value to reflect the inclusion rate of the capital gain being offset.

To reflect the new capital gains inclusion rate, individuals claiming the stock option deduction would be entitled to a deduction at 33.33% of the taxable benefit to the extent the combined capital gains and stock option benefit exceeds $250,000.

Capital gains from the sale of a principal residence (PR) and any gains realized on the sale of a PR will remain tax-free. However, properties that have been acquired as an investment asset and are flipped (i.e., bought and sold within a year) will continue to be treated as business income unless certain exemptions are met.

Increase to the lifetime capital gains exemption

Budget 2024 proposes to increase in the LCGE from $1,016,836 to $1,250,000 on the sale of qualified small business corporation shares and eligible farming and fishing property effective June 25, 2024. This is an increase beyond the current level of inflation and was likely included due to the increase in capital gains inclusion rates.

Introducing the Canadian entrepreneurs’ incentive

To continue to encourage entrepreneurship and competitiveness, the government is proposing to introduce a Canadian entrepreneurs’ incentive which will reduce the inclusion rate on the disposition of qualifying shares by an eligible individual. Eligible capital gains would be included at a rate of 33.3% starting on Jan. 1, 2025 with a lifetime limit that would be phased by increments of $200,000 each year until it reaches a lifetime maximum of $2 million by Jan 1, 2034.

This incentive is available to founding investors in certain sectors who own at least 10% of shares in their business from initial subscription and where the company has been their principal employment for at least five years. The share cannot represent a direct or indirect interest in a professional corporation.

This measure, in conjunction with the enhanced LCGE, is expected to attract entrepreneurship as it will provide a combined exemption of at least $3.25M on the sale of a business when fully rolled out.

Alternative minimum tax amendments

Budget 2024 builds on the existing proposed changes to the alternative minimum tax (AMT) introduced in Budget 2023. The amendments to these proposed rules include:

  • an 80% deduction of the charitable donation tax credit in the computation of AMT, as opposed to the previously proposed 50%;
  • a full deduction of the guaranteed income supplement, social assistance, and workers’ compensation payments;
  • a full claim of the federal logging tax credit;
  • employee ownership trusts being exempt from AMT; and
  • allowing certain previously disallowed credits to be eligible for AMT carryforward (i.e., federal political contribution tax credit, investment tax credits, and labour-sponsored funds tax credit)

The government proposes additional exemptions for certain trusts established for the benefit of Indigenous groups, provided all or substantially all of the contributions made to the trust in the year are amounts paid under the law or settlement agreement in place.

These amendments to this measure would apply to taxation years that begin on or after Jan. 1, 2024.

Employee ownership trust capital gains exemption

In the 2023 Fall Economic Statement, the government proposed to exempt the first $10 million in capital gains realized on the sale of a business to an EOT from tax, subject to certain conditions. Budget 2024 proposes to provide further details on this exemption.

If the following conditions are met, an individual would qualify for the exemption:

  • The disposed shares cannot be of a professional corporation;
  • The transaction is a qualifying business transfer (QBT) in which the acquiring trust is not already an EOT;
  • In the 24 months immediately before the QBT, the transferred shares were exclusively owned by the individual claiming the exemption and over 50% of the fair market value (FMV) of the assets were used in active business;
  • The individual disposing of the shares was actively engaged in the qualifying business on a regular and continuous basis for a minimum of 24 months; and,
  • Immediately after the QBT, at least 90% of the beneficiaries of the EOT were resident in Canada.

The exemption will be shared among all individuals disposing of shares to an EOT. Prescribed disqualifying events would deny or limit the exemption.

These proposals will be effective for qualifying dispositions of shares that occur between Jan. 1, 2024 and Dec. 31, 2026. Further details on the proposed exemption will be released in the coming months.

Other measures

Other measures of note include:

  • Legislation to be introduced for a new opt-in sales tax framework for fuel, alcohol, cannabis, tobacco, and vaping in Indigenous communities, including appropriate revenue-sharing arrangements.
  • Increased efforts to combat money laundering and terrorist financing, including an eased process for warrant applications under the ITA and ETA to simplify the evidence-gathering process in tax evasion investigations.
  • Additional funding to support the CRA to reduce call centre wait times.
  • Building a single sign-in portal for federal government services.
  • Automatic enrolment in the Canada Learning Bond for eligible children born in 2024 who do not have a Registered Education Savings Plan (RESP) opened by the age of four. Additionally, the age to retroactively claim the bond will be increased from 20 to 30 years.
  • Increases to the full-time Canada student grants from $3,000 to $4,200 per year, and interest-free Canada student loans from $210 to $300 per week starting with the 2024/2025 school year.
  • Extending status as a qualified donee for qualifying foreign charities from 24 to 36 months.

Previously announced measures

Intention to proceed with numerous previously announced tax measures, including:

  • Legislative proposals released Dec. 20, 2023 regarding the clean hydrogen and clean technology management ITCs, concessional loans, and short-term rentals.
  • Legislative and regulatory proposals released in the 2023 Fall Economic Statement, most notably including changes to the underused housing tax.
  • Legislative proposals released Aug. 4, 2023, many of which are already captured in Bill C-59, most notably including the carbon capture, utilization, and storage ITC, the clean technology ITC, employee ownership trusts, alternative minimum tax, Pillar Two, Digital Service Tax, EIFEL, and changes to the general anti-avoidance rule and intergenerational transfer exemptions.
  • Legislative amendments released June 6, 2023 to implement changes discussed in the transfer pricing consultation paper.
  • Legislative amendments discussed in Budget 2023 regarding the dividend received deduction for financial institutions.
  • Legislative proposals released Aug. 9, 2022, most notably regarding substantive Canadian-controlled private corporations.
  • Other legislative and regulatory proposals introduced in 2021 and earlier, including changes to the hybrid mismatch arrangement rules and information requirements for GST/HST input tax credit claims.

 

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Industry Highlights

Construction & Real Estate

Canada’s housing supply is targeted with tax incentives relating to the construction of certain rental housing, including accelerated CCA  and an exception from interest deductibility limitations.

Read more: Budget 2024: A boon or bane for the real estate industry?

Manufacturing

Canada continues its commitment to environmental measures by expanding clean economy tax credits.

Read more: Does Budget 2024 sufficiently encourage industrials to innovate?

Not-for-Profit

To improve the rules related to registered charities, Budget 2024 extends the period for qualifying foreign charities to 36 months and simplifies the requirements for issuing donation receipts.

Professional Services

Dispositions of shares of professional corporations will be excluded from the Canadian entrepreneurs’ incentive but are compensated by an increased lifetime capital gains exemption.

Read more: Budget 2024 shakes up exit opportunities for professional services

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Personal Services Business (PSB): CRA Education Initiative

Posted on by Edixon

In general, a personal services business (PSB) exists where the individual performing the work would be considered to be an employee of the payer if it were not for the existence of the individual’s corporation. These workers are often referred to as incorporated employees. Where it is determined that the income is earned from a PSB, the corporate tax rate increases significantly (potentially as high as 39% over the small business rate, depending on the province). In addition, significantly fewer expenditures are deductible against the income.

Since 2022, CRA has been conducting an educational pilot project in respect of PSBs. They have recently published findings from the project and highlighted future planned phases.

Phase I – Identifying companies that hire PSBs

Phase I of the project was conducted from June to December 2022. The results were as follows:

  • approximately 10% of participating corporations were likely to be carrying on PSBs;
  • approximately 64% of potential PSBs were incorrectly claiming the small business deduction (an average of $16,711 of additional federal corporate tax would be payable if this were corrected);
  • nearly 74% of potential PSBs work in the following three industries:
    • transportation and warehousing (35%), with 95% of these working in freight trucking;
    • professional, scientific and technical services (26%); and
    • construction (13%).
Phase II – Identifying potential PSBs

CRA indicated that Phase II is planned for October 2023 to June 2024, and will examine approximately 2,100 randomly selected corporations identified as potential PSBs. The examination will include a voluntary interview and focus on the 2022 tax year. CRA indicated that they hope to gain greater insight into how and why PSBs operate the way they do.

Phase III – Assisted compliance for PSBs

CRA indicated that the timing of Phase III has not yet been determined. They expect to address the 2022 and subsequent tax years with continued education, review of PSBs and assisted compliance of non-compliant PSBs.

ACTION ITEM: Identification of PSBs has become a focal point for CRA. If there is a risk of your corporation carrying on a PSB, inquire as to the corporation’s exposure and potential mitigation strategies.

 

2024 Provincial Budget – Ontario

Posted on by ssiconolfi

On March 26, 2024, the Minister of Finance Peter Bethlenfalvy released the 2024 Budget: Building a Better Ontario.  The budget focuses on limited tax relief due to the current budget deficit, municipal vacant homes tax, and extended relief for gas and fuel taxes.

Business tax measures:

The corporate tax rates remain unchanged at:

  • Small business tax rate: 12.2%
  • General corporate tax rate: 26.5%
  • Manufacturing and processing tax rate: 25.0

Modifications to the  (OCASE) Tax Credit:

The Ontario Computer Animation and Special Effects (OCASE tax credit), which applies to eligible labour expenditures related to computer animation and special effects activities, has been modified:

  • Qualifying corporations must now have a minimum eligible labor expenditure of $25,000 for each production claimed within a specific time limit.
  • This change eliminates the need for film or television productions to be certified for other tax credits to qualify for OCASE.
  • Effective for eligible productions where computer animation and special effects work begins on or after March 26, 2024.

Individual tax measures:

New provincial policy framework to assist housing affordability

In 2017, Ontario’s Fair Housing Plan was implemented empowering Toronto and other interested municipalities with an option to introduce a tax on vacant homes. Currently, Toronto, Ottawa, and Hamilton have the authority to impose such tax. To help address housing affordability issues in the province, the Ontario Budget 2024 proposes to extend authority to all municipalities to impose a tax on vacant homes. Municipalities will be supported through a new, forthcoming provincial policy framework that will set out best practices for implementing the tax, including encouraging a higher tax rate for vacant homes owned by foreigners. There is no date set for implementing this new policy framework.

Other tax measures:

Updates to senior citizen annual income payments

The Ontario Guaranteed Annual Income System (GAINS) provides monthly, non-taxable payments to qualifying low-income seniors. Starting July 2024, Ontario Budget 2024 proposes to increase the maximum monthly benefit from $83 to $87 for eligible single seniors and from $168 to $174 for couples. Additionally, going forward, the benefit will be indexed for inflation annually.

To expand the number of eligible recipients, the annual private income eligibility threshold is proposed to be increased from $1,992 to $4,176 for single seniors and from $3,984 to $8,352 for couples.

Ontario extends gasoline and fuel tax cuts

On July 1, 2022, the gasoline and fuel tax rates were cut by 5.7 and 5.3 cents per litre, respectively, reducing both rates to 9 cents per litre. Ontario Budget 2024 proposes to extend these rate cuts until Dec. 31, 2024.

Changes to alcohol taxation

The government plans to scrap the basic tax for Ontario wine and wine coolers in on-site winery retail stores starting April 1, 2024. A review of taxes and fees on other alcoholic beverages will also be conducted with the aim to boost competitiveness for Ontario producers and consumers.

Enhancements to the non-resident speculation tax

Ontario implemented a non‐resident speculation tax (NRST) in October 2022 on residential property purchased by a foreign entity. The government is aiming to strengthen the NRST with amendments to support compliance and improve fairness. In addition, Ontario is taking steps to increase information sharing between provincial, federal, and municipal governments to better understand vacancy and foreign‐purchasing patterns.

 

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