It’s that time of year again. Time to plan for family gatherings and travel. Time to set your New Year’s resolutions. Time to try and stall the swift passage of time. Unfortunately, it is also the time of year when we wait with bated breath to learn if parliament is going to pass tax legislation before December 31st.
Writing this year’s tax letter, I feel more like the Grinch than Santa Claus. The biggest piece of tax legislation for 2024 is the increase in the Capital Gains Inclusion Rate from one half to two thirds, but it still isn’t law. We will come back to this in a minute, but first let’s talk about tax provisions which definitely are in effect for 2024.
Do you have a Short-Term Rental, such as an Air BnB, VRBO or similar property? If so, be aware, that if the property is not in compliance with all local registrations, licensing and taxes, the gross rental income will still be taxable, but the expenses will be disallowed. Woah! Read that again. The expenses which normally would reduce your net rental income to, or near zero, would be disallowed. All is not lost. If you rectify the situation before the end of the year, the expenses will be deductible for the whole year. Be prepared to prove your compliance if the CRA asks. More municipalities are introducing short-term rental registration and taxation. Stay updated with any rule changes and register as soon as they become applicable to your rental property.
Bare Trusts do not need to file a T3 trust income tax and information return for 2024. This is another temporary hold on the law. The CRA seems to be taking this one year at a time. Currently, it is expected that bare trust reporting will begin for the 2025 tax year (T3 returns due by March 30, 2026).
The Alternate Minimum Tax (AMT) has significant changes effective from the first of January 2024. The federal AMT affects individuals and trusts but not corporations. Ontario has a separate AMT for corporations.
How does Alternate Minimum Tax work?
- Individuals and trusts calculate their income for regular income tax purposes. This is the calculation of taxable income that we are familiar with. Some items of income are only partially included. For instance, capital gains are only 50% included in income under current* law. Some items of income are fully excluded from regular taxable income such as: capital gains exempt under the principal residence exemption, the unrealized gain on the donation of publicly listed securities, and the portion of gains from the sale of a business, farm, or fishing operation that is eligible for the Lifetime Capital Gains Exemption (LCGE). Several deductions are also allowed when calculating regular taxable income. If taxable stock options benefits were received, the stock option deduction reduces the amount taxable to arrive at approximately the same treatment as capital gains (subject to some limitations). You can also deduct interest expense incurred to earn investment income along with carrying charges such as investment management fees.
* The capital gains inclusion rate increase has not passed into law at time of writing.
- Regular income tax is calculated on the regular taxable income and reduced by your Non-Refundable Tax Credits.
- Next, Alternate Minimum Taxable Income is calculated using different (harsher) income inclusion rates and less generous deductions and applying a basic exemption of $173,000, which is up from the $40,000 exemption before 2024.
- AMT at 20.5% federal is calculated on the result from the previous step. Most non-refundable tax credits are also reduced by half for AMT purposes. If the AMT is higher than the regular income tax, you pay the AMT and calculate the provincial tax on the AMT basis as well. The amount of AMT in excess of regular tax is carried forward as a potentially recoverable tax over the next seven years.
Most taxpayers never see the Alternate Minimum Tax on their T1 personal income tax return. The calculations are in the background and are only printed if AMT ends up applying. The 2024 AMT will apply to more taxpayers, even though the basic exemption has risen from $40,000 to $173,000, because of the changes to the inclusion and deduction rates. Here is a summary of the major changes in those rates.
| Main Changes to Adjusted Taxable income as contrasted to Regular Taxable Income | in ATI | Regular Income Tax | Regular if CGI rate passes | for AMT Prior to 2024 | for AMT 2024 and forward |
| capital gains other than LCGE | includible | 50% | 66.67% | 80% | 100% |
| capital gains exempt under LCGE (QSBC) | includible | 0% | 30% | 30% | |
| capital gains on donations of publicly listed securities | includible | 0% | 0% | 30% | |
| capital loss and business investment loss | deductible | 50% | 80% | 50% | |
| deduction for gains on donated property | deductible | 80% | 100% | ||
| Cdn sourced Eligible Dividends | includible | 138% | 100% | 100% | |
| Cdn sourced non-eligible Dividends | includible | 115% | 100% | 100% | |
| No Dividend Tax Credit for AMT purposes | creditable | all | none | none | |
| stock option income | includible | 50% | 66.67% | 80% | 100% |
| because the stock option deduction is: | deductible | 50% | 33.33% | 20% | 0% |
| capital gains on donations of non PSL stock option property | includible | 80% | 100% | ||
| non-capital and LP losses cfwd | deductible | 100% | 100% | 50% | |
| certain employment expenses in ITA S.8 | deductible | 100% | 100% | 50% | |
| interest and financing expenses in respect of amount borrowed to earn income from property | deductible | 100% | 100% | 50% | |
| CPP/QPP contributions on SE earnings | deductible | 100% | 100% | 50% | |
| moving expenses | deductible | 100% | 100% | 50% | |
| childcare expenses | deductible | 100% | 100% | 50% | |
| Disability supports deduction | deductible | 100% | 100% | 50% |
There is no AMT in the year of death, including for income realized in death in an alter-ego, spousal, or joint-spousal trust. Planning for the AMT starts with identifying the items on your tax return that might push you into AMT territory and then managing so that fewer of these preference items hit in the same year. This may include spreading capital gains, dividends, or stock option income over multiple years where practical, or now being cognizant of donating appreciated investments to charities. The best way to plan around AMT is to complete an annual tax projection.
Capital Gains Inclusion Rate
(not yet law as of date of writing):
Net capital gains are the excess of gains over losses recognized on the disposition of capital properties (with some exclusions) during the tax period. These net gains have been included in income at an inclusion rate of 50% since the beginning of this century. We refer to the 50% included in income as ‘Taxable Capital Gains’. Net capital losses multiplied by the inclusion rate are called ‘Allowable Capital Losses.’ When the taxpayer has net capital losses in a year, the Allowable Capital Loss is not allowed against the current year income from other sources, but can be carried back up to three years, or forward indefinitely to be applied against Taxable Capital Gains in those years.
What the 2024 legislation will do – if it passes – is to change the inclusion rate as of June 25, 2024. Net capital gains realized on or before June 24, 2024, will be included in income at 50%. The first $250,000 of net capital gains realized after June 24, 2024, by an individual or a Graduated Rate Estate (GRE) of a deceased individual, will also be included in income at 50%. Any additional net capital gains realized after June 24, 2024, over and above $250,000, will be included in income at two-thirds (66.66%). For taxation years after 2024, the first $250,000 of net capital gains of an individual or GRE will be included at 50% and the remainder will be included at two-thirds. Net capital losses have a similar inclusion scheme but carrying them back against Taxable Capital Gains that were calculated using the 50% inclusion rate will require some math. The Stock Option Deduction would decrease from 50% to one-third (33.33%) to make the stock option income inclusion similar to taxable capital gains at two-thirds.
Trusts (other than GREs) which do not distribute their capital gains to their beneficiaries, and corporations do not receive the first $250,000 net capital gains realized after June 24, 2024, included at a 50% rate. Instead, they go straight to the two thirds inclusion rate for all net capital gains realized after June 24, 2024.
Under the pending legislation, the lifetime capital gains exemption (LCGE) on the disposition of shares of a qualified small business corporation, or qualified farm or fishing property is slated to increase from $971,190 in 2023 to $1,250,000 for 2024. Interestingly, any gains exempt under the LCGE do not take away from the $250,000 includible at the 50% rate. Where the proceeds of a significant sale are paid over a number of years, the capital gains reserve can spread that gain over as much as five years, multiplying the $250,000 threshold by five.
We have a blog on our website with examples. https://cardinalpointwealth.com/2024/06/11/updates-on-the-new-capital-gains-inclusion-rate-in-canada/
We have been working with our clients to minimize the impact of the Capital Gains Inclusion Rate by managing the amount of net capital gains to be realized each year. We are continuing to monitor the status of the legislation as impatiently as most Canadians. There may be some last-minute strategizing around taking reserves if the legislation does not pass by the end of this year.
Part of the pending legislation is to create a three-year period for estates to carry back a capital loss. This is a welcome change, as currently, only net capital losses incurred in the first year of a graduated rate estate (GRE) can be carried back to the terminal tax return. This timing restriction presents a significant challenge to executors and trustees who often encounter delays in administering the GRE and may not be in a position to dispose of any property within the first tax year of the GRE.
Housing measures – not new but still notable
The First Home Savings Account (FHSA) was new for tax year 2023. This is a lovely cross between an RRSP and a TFSA if you do not yet own a home. You may contribute up to $8,000 per year to a cumulative maximum contribution of $40,000. The amount contributed is deductible like an RRSP. The account grows tax free like a TFSA and can be withdrawn to purchase a qualifying ‘first’ home without any taxation of the contributions or earnings (also like a TFSA). If a ‘first’ home is not purchased within the maximum participation period, the account must be closed in a taxable transaction or transferred to your RRSP. Rolling an unused FHSA into an RRSP does not use up your available contribution room and does not create a taxable event. This is the Grinch giving back the presents at the end of the story.
Fine print: You must be a resident of Canada, a first-time home buyer, and at least 18 years of age to open a FHSA. Your FHSA has a maximum participation period of the earliest of three dates. 1) the date you turn 70, 2) the date you make the first qualifying withdrawal, and 3) the end of the year which includes the 14th anniversary of opening the FHSA. A qualifying home is a residential housing unit – or your share of one – located in Canada. You are considered a ‘first-time home buyer’ if in the part of the year before the FHSA is opened and the four years before that, you did not live in a home that you or your spouse/common-law partner owned jointly with another person or otherwise.
If you are a qualifying person and are hoping to buy a home in the next fifteen years, the FHSA is a great option and offers the flexibility to roll it into an RRSP if plans change or you emigrate from Canada.
On the subject of housing, be aware of the Property Flipping rules. This is a measure designed to prevent abuse of the principal residence exemption (PRE). Assume you purchase a residential property located in Canada as your primary residence. You move in and live in it as your principal residence for five years. You move to another home and two years later, you sell the original home at a gain of $300,000. You have owned it for seven years. The principal residence exemption exempts $257,143 of that gain from taxation. The principal residence exemption for this example is as follows:
(5 yrs occupied + 1 yr) / 7yrs ownership X $300,000 gain = $257,143 exempt gain
If you do not hold the home for a minimum of 365 days, and even if you occupied the home as your principal residence for all the days of ownership, instead of treating the gain on sale of your principal residence as an exempt capital gain, the profit on the sale will be treated as fully taxable ordinary income. There are exceptions for when you have to sell and move, on account of: death, insolvency, safety, a qualified move, or joining a related household (marriage or a family that needs a larger home). Contact your tax advisor if you find yourself in a situation where the Property Flipping rules might apply. In all cases, keep good records of all your costs to purchase and improve a property.
Non-refundable tax credits for home purchase and accessibility renovations can lower your tax bill but not create a refund once tax has been reduced to zero. The Home Accessibility tax credit for renovations that help seniors and persons with disabilities to remain in their homes is a maximum of $3,000. The First-Time Homebuyers’ tax credit is up to $1,500 when you acquire a qualifying home.
The Multi-generational Home Renovation tax credit is a refundable credit of up to $7,500. Renovations must be undertaken and paid for after January 1, 2023, to create a secondary unit in your home for a senior or disabled adult.
Business Owners
You may have heard about reportable and/or notifiable transactions. The rules for what sort of transaction needs to be reported are complex and beyond the scope of this tax highlight letter. These provisions along with the General Anti-Avoidance Rule (GAAR) should not be ignored if you are planning transactions outside of general everyday business activities. Consult your professional accountant to make sure that you remain in compliance and safe from the imposition of penalties.
The GAAR penalty of 25% has been passed into law. The CRA has indicated that it will not impose GAAR on pre-emptive capital gains triggering transactions completed before June 25, 2024.
There are new safe income rules which are also beyond the scope of this letter.
Planning for Next Year
Little birds are whispering that there may be tax rate decreases next year. These are just whispers but they remind us of the conventional wisdom about tax planning, which is:
- Defer or smooth income to keep more of it in lower tax brackets.
- Work through the TOSI exceptions to figure out allowable ways to allocate income amongst family members.
- Accelerate deductible expenses that make your life better.
- Maximize your RRSP contributions where that pulls income out of a high tax bracket.
- Maximize your annual TFSA and FHSA contributions.
- Claim all tax credits to which you are entitled.
- Increase donations (if you are charitably inclined) but only to the point where it does not trigger AMT.
- Keep good records to support your deductions and tax credits.
- Keep your private wealth manager and your tax professional in-the-loop about life changes so they can better advise you.