What you need to know about the 2024 Federal Budget

Welcome to Achieve Wealth’s tax update following the 2024 Federal Budget released on April 16, 2024

Estimated reading time: 6 minutes   

The 2024 Federal Budget proposes to increase the capital gains inclusion rate for capital gains realized on and after June 25, 2024, from 50% to 66.67% for corporations and trusts and from 50% to 66.67% on the portion of capital gains realized in the year that exceed $250,000 for individuals.

Below are potential impacts that may affect individuals, businesses, and trusts. Planning strategies are available for various scenarios. This list is not exhaustive. Please feel free to contact us to discuss any specific situations. We’re here to assist you!

Impacts on individuals:

1. Higher Tax Liability: Individuals will face higher taxes on capital gains exceeding $250,000 annually, as the inclusion rate rises from 50% to 66.67%. This applies to individuals who may be disposing of personal use real property (other than their principal residence, such as their cottage), rental properties, shares of private corporations, and farming and fishing property, among other examples.
2. Estate Planning Complications: The increased inclusion rate will raise the tax liability on deemed dispositions at death, potentially complicating estate planning and increasing the tax and liquidity burden on estates and heirs.
3. Impact on Retirement Planning: The higher inclusion rate may affect funds available for retirement. Individuals may need to adjust their investment portfolios to manage the increased tax burden.
4. Employee Stock Options: The new inclusion rate will affect the taxation of gains from employee stock options, with a reduced deduction for taxable benefits above the $250,000 combined limit for stock options and capital gains.
5. Impact on Charitable Contributions: The tax benefit of donating appreciated securities to charity may become more attractive as a strategy to avoid the higher inclusion rate on capital gains.

Impacts on business owners:

1. Capital Dividend Account (CDA) Reduction: The CDA is a notional account for private corporations which allows private corporations to pay tax-free dividends to its shareholders.  Under the new capital gains inclusion rate, with only one-third of capital gains non-taxable, businesses will receive a smaller CDA credit compared to what can be generated currently under 50% non-taxable capital gains, hence a reduced tax-free dividend available to be distributed to shareholders.
2. Increased Adjusted Aggregate Investment Income (AAII): Higher capital gains inclusion rates will lead to a faster accumulation of AAII, which could impact the availability of the Small Business Deduction (SBD). An associated group of Canadian-controlled private corporations (such as a group of operating companies under one ownership should it be individuals or one holding company) is entitled to a lower corporate tax rate (11% in BC) on the first $500,000 of active business income (compared to 27% otherwise).  Where the group’s aggregate investment income in a year exceeds $50,000, its entitlement to this lower tax rate will be clawed back in the following tax year.  Where aggregate investment income exceeds $150,000, the group will not be entitled to this lower tax rate in the following year.  The increased capital gains inclusion rate will increase corporate groups’ taxable capital gains, thereby increasing investment income and reducing the group’s entitlement to this lower tax rate.
3. Reduced Capital Gains Surplus Stripping: Capital gains surplus stripping is a tax strategy that allows the shareholder to distribute the surplus from the corporate as a capital gain, instead of dividends. The new inclusion rate will reduce the tax advantages of capital gains surplus stripping, narrow the gap between dividend and capital gains tax rates therefore the appeal of using capital gains stripping transactions to extract corporate income at lower rates will be reduced.
4. Life Insurance Planning: More business owners may consider shifting corporate assets into tax-exempt life insurance policies to protect their value.
5. Greater Tax Burden on Business Sales: Entrepreneurs selling their businesses may face a higher tax burden due to the increased inclusion rate. To mitigate the impact of selling business shares, the Budget 2024 proposes to increase the Lifetime Capital Gains Exemption (LCGE) to apply up to $1.25 million (from the current $1,016,836) of eligible capital gains. LCGE is a tax exemption for capital gains realized on the disposition of qualified small business corporation shares and qualified farm or fishing property.
6. Postmortem Planning Complexity: The new inclusion rate can make postmortem planning more complex and increase the risk of double taxation for private corporation shareholders.

Planning Strategies for Individuals and Businesses:

Realize Early Gains: Businesses may be encouraged to realize capital gains before June 25, 2024, to benefit from the current 50% inclusion rate.

Investment Strategy Reassessment: Business owners may need to revisit their investment mix between personal and corporate portfolios to take advantage of the ½ capital gains inclusion rate on the first $250,000 for individuals. The reassessment should take place before the effective date of the new capital gains inclusion rate.

Tax-Loss Harvesting Opportunities: There will be a greater emphasis on tax-loss harvesting strategies to offset gains and reduce overall taxable income.

Deferring Capital Gains: Transfer assets to a corporation using a Section 85 rollover to defer capital gains until those shares or assets are eventually sold, which sometimes could be until the business owner (or even the surviving spouse) passes away. Take advantage of the $250,000 personal low inclusion rate threshold prior to rolling over to a corporation.

Corporate-owned Life Insurance: Use corporate-owned (and paid) life insurance (on the life of the business owner) to transfer corporate dollars (partially taxed) to the owner’s family through tax-exempt policy payouts to add estate value and preserve family wealth. This strategy as a tax-efficient estate and generational wealth planning tool will become more favorable given the new capital gains inclusion rate.

Charitable Gifting Incentive: Individuals and corporations might increasingly donate appreciated publicly traded securities to charities to receive CDA credits and charitable tax credits at the market value.

Capital Gains Reserve: When selling a capital property or qualifying small business shares, a seller can take advantage of the capital gains reserve to spread out their tax liability. This option is available if the sale proceeds are received over multiple years through installment sale, vendor take-back mortgage, or other structured payment plan. The seller/business owner should also consider utilizing the LCGE if eligible, and the $250,000 lower inclusion rate that may be available.  

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.

Individual Pension Plans (IPPs) for Business Owners: Individual Pension Plans (IPPs) are tax-efficient tax-deferred registered retirement savings plan allowing qualifying business owners, employed by their company and aged 40 and over, to accumulate significantly retirement funds compared to an RRSP. Business owners can enhance their tax deductible and tax-sheltered registered retirement savings with an IPP. Their company will have the opportunity to make tax deductible contributions far greater than the amounts that the participant could contribute to an RRSP.

Conclusion

We hope this update on Canadian tax rules has been helpful for your financial planning. We invite you to reach out to discuss your unique tax and financial planning needs. 

Disclaimer

This update is for informational purposes only and should not be considered tax advice. Tax rules are complex and subject to change. Please consult a qualified tax professional or financial advisor for advice specific to your situation.