When it comes to income tax deductions, it seems that everyone has heard of the capital gains deduction, which makes up to $375,000 of your taxable capital gains tax-free over your lifetime. (The lifetime capital gains exemption is $750,000 as of May 1, 2006, but, as you only include half of a capital gain in your income, your cumulative capital gain deduction is limited to half of $750,000.)
However, some people think that the capital gains deduction is a blanket exemption that they can apply to any of their capital gains, and that’s not true. You can actually only apply the capital gains deduction to your taxable capital gains when one of these situations exists:
- You have sold qualified small business corporation shares;
- You have sold qualified farm property;
- You have sold qualified fishing property (after May 1st, 2006); or
- You have brought a reserve into income resulting from the disposition of any of these three types of property.
In all these cases you also have to have been a resident of Canada throughout the tax year to be able to claim the capital gains deduction.
Here are the details of each of these situations.
Qualified small business corporation shares are the shares of a Canadian-controlled private corporation (CCPC) which essentially is a corporation incorporated in Canada or resident in Canada which is not controlled directly or indirectly by one or more non-resident persons, or one or more public corporations (The Canada Revenue Agency’s IT458R2 – Canadian-Controlled Private Corporation explains the qualifications to be a CCPC more fully.)
You also have to have held the shares for at least two years and during that time, “more than 50% of the fair market value of the assets of the corporation were:
- used mainly in an active business carried on primarily in Canada by the Canadian-controlled private corporation, or by a related corporation;
- certain shares or debts of connected corporations;
- or a combination of these two types of assets” ( Definitions for Capital gains, Canada Revenue Agency).
Qualified farm property includes an interest in a family-farm partnership and eligible capital property, such as milk and egg quotas, as well as farm land and buildings.
Qualified fishing property includes fishing licenses and fishing vessels, of course, but also might be an interest in a family fishing partnership or a share in a family fishing corporation.
Whether it’s farm property, fishing property, or shares in a CCPC, the qualifying property may be owned by you, your spouse, or your common-law partner.
A reserve occurs when you have sold a capital property and instead of receiving full payment all at once when you sell it, you get paid for it over several years. Claiming a reserve lets you report a portion of the capital gain in the year that you sell the property.
You still calculate your capital gain the same way as usual, but once you had the total of the capital gain figured out, you subtract the amount of your reserve for the year – the result being the part of the capital gain you have to report in the year of disposition.
So if you sold any of these kinds of capital property this year, you’ll definitely want to be sure you claim the capital gains deduction you’re entitled to and reduce the amount of income tax you have to pay. ( T657 – Calculation of Capital Gains Deduction is the relevant income tax form.)
And the capital gains deduction is a flexible tax deduction in that you don’t have to claim the entire amount of your capital gains deduction in the tax year that you sold the property.