As part of the recent 2024 Federal Budget (Budget 2024), the federal government proposed an increase to the capital gains inclusion rate. This means that when a capital gain is realized, more of your gains could potentially be added to your taxable income.
I look after my clients’ wealth holistically, so to help understand and minimize tax impacts, here’s what you need to know about the changes to the capital gains tax rules and a way to protect yourself and your estate.
The New Rules:
Starting June 25th 2024, the new capital gains inclusion rate would increase the “inclusion rate” from one half to two thirds for corporations and trusts, and from one half to two thirds on the portion of capital gains realized in the year that exceed $250,000 for individuals.
So, basically it would apply to:
- Individuals who realize more than $250,000 in capital gains in a year, whether through holdings (stocks, bonds, mutual funds) in non-registered investment accounts, or secondary properties, such as cottages and investment properties.
- For individuals with gains under $250,000, the capital gains tax inclusion rate will remain at 50%.
- All capital gains reported by trusts and corporations (regardless of whether it is an operating, holding or professional corporation).
- The 50% inclusion on the first $250,000 in capital gains is not available to corporations and trusts.
If you hold investments in a registered account such as a Registered Retirement Savings Plan (RRSP) or Tax-Free Savings Account (TFSA) for example, the new tax rules for capital gains do not affect you.
What It Means:
Capital gains occur when someone sells or gifts a property for more than they originally purchased it. With the increases in real estate prices over recent years, the rise in capital gains tax could significantly affect individuals who own second homes (such as cottages or other properties) or those who inherit property.
Under the current inclusion rate, Canadians are taxed on 50 per cent of that capital gain. As an example, if you purchased your cottage for $100,000 but sold it for $900,000, you’d be taxed on $400,000 (which is half of your $800,000 capital gain). That $400,000 would be added to your income and taxed at your marginal tax rate.
Effective June 25, 2024, under the new proposed inclusion rate, following the previous example, if you sell your cottage for $900,000, the capital gains are still $800,000, but you would now be taxed on 50 per cent of the first $250,000 (amounting to $125,000), and two-thirds on the remaining $550,000 (amounting to $366,666) resulting in you now being taxed on $491,666, which is a 23% increase over the current rules.
What You can Do:
When it comes to managing capital gains, there are several strategies you can consider. One effective approach is to purchase life insurance, which will cover future capital gains and prevent taxes from eroding your wealth. Life insurance offers a straightforward and cost-effective way to protect yourself from many tax liabilities. If you’re married, consider a joint and last-to-die life insurance policy which is more affordable than individual coverage.
Considering the example above, to insure your wealth against the increase in capital gains, the annual cost for a $100,000 individual life insurance policy for a healthy 65-year-old is about $3,100 per year. The same amount of joint-and-last-to-die insurance covering two healthy 65-year-old spouses is roughly $2,300 per year. When a couple invests in this policy, the benefit is paid upon the second spouse’s passing, precisely when those taxes may be due. If you want a more comprehensive coverage and you would like to make sure all of your capital gains are covered, not just the increase from this Budget change, consider purchasing higher coverage amounts. By doing this, you ensure none of your hard-earned wealth is eroded away by taxes and as much as possible goes to your beneficiaries.
Due to retirement or other circumstances, some parents may face financial constraints when funding the insurance premiums. In these cases, adult children who are set to inherit assets, like the cherished family cottage or other properties, often come together to cover their parents’ premiums. It’s a thoughtful way to safeguard your legacy and protect your loved ones.
Estate Planning
To round out this comprehensive holistic plan with estate planning,, each spouse can leave the cottage to the other through a will or by right of survivorship, if jointly owned. When the surviving spouse passes away, the insurance benefit is paid to the beneficiary or the estate and provides the necessary cash to settle the tax bill. This ensures the cottage, simultaneously bequeathed to the children according to the will, can be passed down to the to them without any financial strains.
Additionally, life insurance can play a crucial role in preserving the value of your estate. Estate-related costs, such as probate fees, final income taxes and other final expenses, can significantly impact the value of your legacy. By strategically insuring your estate, you can create some protection to safeguard what’s passed on to your heirs. The insurance benefits can cover these costs, allowing your heirs to receive the full intended value of their inheritance. It ensures that your legacy remains intact and provides peace of mind for your loved ones.
Remember, thoughtful planning can make a significant difference in managing capital gains and preserving your family’s assets and legacy.
If you have any questions, please let me know how I can help.