What are Capital Gains or Losses
It is tax season again and, for Canadian small business owners, that means it is time to review information about capital property transactions to determine capital gains and losses. Determining capital gains or losses can be a difficult process even for the most skilled business owners, so this article will review the information that you need to know in order to file your income taxes appropriately. What is a capital gain or loss? Do you have a capital gain or loss and how you do you calculate it? And, when do I report a capital gain or loss? This article will address those questions and more to help you understand your capital gains and losses this tax season.
Defining Capital Gain/Loss
In order to understand whether you have a capital gain or loss, it is imperative that you understand what a capital gain/loss is and how to calculate it. A capital gain by definition is an “increase in the value of a capital asset (investment or real estate) that gives it a higher worth than the purchase price” (1). Conversely, a capital loss is “the loss incurred when a capital asset (investment or real estate) decreases in value” (2). Essentially this means that a capital gain or loss is the difference between the purchase price of capital property and the price for which that property was sold. The Canada Revenue Agency lists the following examples as transactions involving capital property:
1. You exchange one property for another.
2. You give property other than cash as a gift.
3. Shares or other securities in your name are converted.
4. You settle or cancel a debt owed to you.
5. You transfer certain property to a trust.
6. Your property is expropriated.
7. Your property is stolen.
8. Your property is destroyed.
9. An option that you hold to buy or sell property expires.
10. A corporation redeems or cancels shares or other securities that you hold (you will usually be considered to have received a dividend, the amount of which will be shown on a T5 slip).
11. You change all or part of the property’s use.
12. You leave Canada (emigration)
13. The owner dies (3)
Do You Have a Capital Gains or Losses?
In considering your yearly transactions and capital property sales as shown in the list above, you must now determine whether or not you have a net capital gain or a net capital loss, both for each transaction and for your yearly totals. After configuring your list of capital property transactions, determine which capital sales made net gains and which capital sales made net losses. In order to determine this, you will need to take into account these three monetary figures:
a. the proceeds of disposition;
b. the adjusted cost base (ACB); and
c. the outlays and expenses incurred to sell your property. (4)
If you have sold a property for MORE than the sum of the adjusted cost base (ACB) and the outlays and expenses incurred to sell your property, then you have a capital gain. If you have sold a property for LESS than the sum of the ACB and the outlays and expenses incurred to sell your property, then you have a capital loss.
After calculating these amounts, the taxpayer must find the sum of the capital gains and capital losses to determine either a total yearly capital gain or a total yearly capital loss. Taking that total, you can then find your total taxable capital gain or loss by multiplying your net capital gain or loss total by the government set inclusion rate. The Canada Revenue Agency determines the inclusion rate that will then help you determine what your taxable outcomes are for total taxable capital gains and losses. In 2011, for example, the inclusion rate was 0.5. In this instance, you would take your total capital gain for the year and multiply it by 0.5 in order to determine your yearly taxable capital gain. Similarly, you would take your total capital loss for the year and multiply it by 0.5 in order to determine your yearly taxable capital loss. Remember, you do NOT have to include capital gains or losses in your business or property income, even if you used the property for your business.
When to Report a Capital Gain or Loss?
All capital transactions in a given tax year, a calendar year from January 1 to December 31, should be reported, even if the transaction did not result in a capital gain or a capital loss. If you have sold capital property in a given tax year, you must “file an income tax and benefit return to report the transaction, even if you do not have to pay tax.” (5).
Skilled businessmen and taxpayers know that you can offset the taxes you have to pay on capital gains by claiming a capital gains reserve, or through donations. While these can be useful tools for small businessmen, they are also significantly more complicated than what we have just covered and should not be attempted without the help of an experienced tax professional. For more information regarding Canadian Capital Gain/Loss tax information, or for help filing your tax schedules, check out the Canada Revenue Agency’s website at www.cra.gc.ca.