Capital gains tax going up, everyone panic! Well it isn’t that simple and there is a lot of confusion from people not using the right terminology.

May 27th 2024 update: Note that the increase in capital gain inclusion rate proposal has been removed from the budget but the Federal government still plans to proceed with the change effective June 25th 2024. The article below has been updated to reflect this change. Look out for news on transitional provisions, etc which I will add to this article once the information is released by the government.

The headline news is that starting June 25th 2024, capital gains will be taxed higher after the initial $250,000 in capital gain per year for individuals. The first $250,000/year in capital gain will have a capital gain inclusion rate of 50%. After the first $250,000/year the capital gain inclusion rate on any additional capital gain will be 66.67% (or 2/3). Note that for corporations and trusts, the capital gain inclusion rate for any capital gain will be 66.67% and this is quite a big change for those that own rental properties or reinvest excess cash within corporations.

For those who aren’t familiar with tax terminology or are confused and misled about what you’ve seen on social media, read on. Note that while some of it sounds very wordy and repetitive, you need to pay attention because there is a very important difference between capital gain and taxable capital gain and how these terms are related.

Stay until the end for some tax planning opportunities and considerations! As with any new legislation like this I also highly recommend you read the release from the government on this topic and have another example calculation.

Let’s start with defining some terms:

Capital Gain – To simplify, it is the profit you make after selling a capital asset; proceeds of disposition minus the cost of the asset. For example, if you could a rental house for $100,000 and you sold it for $500,000. Your capital gain will be $400,000.

Capital Gain Inclusion Rate – Currently (until June 25th 2024), the only capital gain inclusion rate is 50%. This means that 50% of the capital gain is included as taxable income.

Taxable Capital Gain – This is the amount of the capital gain that is actually taxed at your marginal tax rate. Using the above example with a Capital Gain Inclusion Rate of 50%, the taxable capital gain is $200,000. Note that $200,000 is the taxable capital gain and you are NOT paying the CRA $200,000.

Marginal Tax Rate – Canada has a progressive tax system which means that the more you make, the higher your tax rate. The marginal tax rate is the tax rate a taxpayer pays on their next dollar of income given their income level. In Canada it’s slightly complicated because we have federal and provincial tax rates which increase based on different levels of income. This is why most generic examples of tax calculations just assume the highest marginal tax rate to make examples easier. For example, in Ontario, the highest marginal tax rate in the 2023 tax year was 53.53% which applies to taxpayers making over $236,675 in taxable income. Using our example numbers above, assuming the taxpayer makes over $236,675, the applicable marginal tax rate on the taxable capital gain is 53.53%. Therefore the tax that is paid on the capital gain of $400,000 is $107,060.

Capital Gain Tax (?) – So what exactly is a Capital Gain Tax? There is no special tax rate for capital gains. In the above example, the effective tax rate on the capital gain was 26.76% (107,060/400,000) but an individual making $80,000 with a lower marginal tax rate (approximately 29.65% vs 53.53%) will result in lower effective tax rate on the same capital gain.* So when people say “the Capital Gains Tax has gone up!”, it can be confusing and misleading because there really isn’t one capital gains tax rate. What’s really happening is that the capital gain inclusion rate is going up after the initial $250,000 of capital gain.

Capital Gain Calculation from June 25th 2024

I will now use the above example to show you how to calculate how the new capital gain inclusion rate works. Reminder: Bought $100,000 house, sold for $500,000. We will use the same marginal tax rate of 53.53% in Ontario

Under the new tax regime, the capital gain does not change, it is still $400,000. But the capital gain inclusion rate will be different which results in a different taxable capital gain.

The first $250,000 has a capital gain inclusion rate of 50% therefore adding $125,000 (250,000*50%) of taxable capital gain to the taxpayers income.

The remaining $150,000 (400,000-250,000) of capital gain has a capital gain inclusion rate of 66.67% therefore adding $100,000 of taxable capital gain to the taxpayers income. This means that the total taxable capital gain will be $225,000.

Next step is to multiply the taxable capital gain by our marginal tax rate of 53.53% resulting in a tax of $120,442.50 on the capital gain of $400,000. The result is that under the new system, the same transaction would be taxed an additional $13,382.50. If you want to boil it down, it is essentially a 16.67% tax increase on capital gains above $250,000/year for individuals and 16.67% tax increase on all capital gains for corporations and trusts.

Main Takeaways

Most people will not be affected by this because A) their main asset is their own home which is exempt from capital gains under the Principal Residence Exemption and B) if they are selling an investment/rental property, only gains above $250,000 will be affected.

The most affected will be on corporations and trusts which will see all their capital gains subject to the 66.67% capital gain inclusion rate.

Tax Planning Opportunities?

Here are some options for reducing your tax burden with the higher capital gain inclusion rate:

For real estate held in a corporation, it is worth rethinking why you are holding it in a corporation. If it is simply for limited liability, is it worth paying an additional 16.67% in taxes for capital gains in a future disposition? It might be worth taking the property out of the corporation to be held personally.
For professional corporations and other businesses that reinvest profits within a corporation to take advantage of tax deferral; this new change can have an impact on the cost-benefit analysis especially if you are generating a lot of capital gains within the corporation. It might be worth taking more dividends out of the corporation and investing personally. This is especially true if you are planning to liquidate holdings of the corporation in the next few years for retirement or sale of the business to take advantage of the Lifetime Capital Gain Exemption.
In the future, you would want to keep capital gains below $250,000/year to avoid the higher inclusion rate. For most people such a big gain would mainly be from the sale of an asset like an investment/rental property. Obviously, such a disposition is very difficult to split up into multiple transactions. But in the right circumstances, you could sell a percentage of the property each year to get below the $250,000 cap. You would obviously be incurring additional transaction fees and complications, especially if the property is mortgaged. But in the above example with a $400,000 capital gain, if you split the transaction over two years, you would save $13,382.50 in taxes.

Given the fact that the effective date of this new change is June 25th 2024, this does not give you much time to make substantial changes to your asset holdings so please reach out to us ASAP if you want a consultation.

FAQ

The new capital inclusion rate will apply to assets sold on or after June 25th 2024. For real estate this means setting a closing date before June 25th 2024 (and probably give it a few extra days in case of closing complications). We do not advise selling for the express purpose of avoiding the increase in the capital gain inclusion rate without consulting a financial professional as it may be beneficial to hold the property depending on plans for the property. There may also be other planning opportunities short of selling the property outright.
Corporations and Trusts will effectively be paying 16.67% (66.67%-50%) more in taxes on capital gains across the board because the new capital gain inclusion rate applies to any capital gain.
The principal residence exemption still applies.
The $250,000 threshold for individuals resets each tax year

*I have omitted calculating the effective tax rate as it is more difficult because the taxable capital gain will be taxed at different marginal tax rates as it pushes up the taxable income

The Prohibition on the Purchase of Residential Property by Non-Canadians Act (the Act) will be a two year foreign buyer ban on certain types of Canadian residential properties.

**UPDATE**

The federal government released the Regulations with more details on exemptions and enforcements on December 21st 2022, this article has been updated to include those new details.

**March 28th 2023 UPDATE**

The regulations were amended on March 27th 2023. The foreign ownership percentage of a corporation or entity was changed from 3% to 10% to be considered a Non-Canadian entity. The exemption for work permit holders was also amended, the exemption now only requires that the work permit has 183 days or more validity as of the date of purchase and they have not purchased more than one residential property. Non-Canadians are also now allowed to purchase residential property if the purpose is for development and can also buy vacant land. The article below will be updated with these changes while noting the old regulations.

Key points of the foreign buyer ban:

It comes into force on January 1st 2023 but will not prohibit any agreements entered into prior to this date.
There are exemptions for some “Non-Canadians”.
- Temporary residents who are studying at a designated learning institution and meet all the following: filed all required income tax returns in the five preceding tax years in which the purchase was made, physically present in Canada for a minimum of 244 days in each of the five calendar years preceding the year in which the purchase was made, purchase price does not exceed $500,000, and have not purchased any other residential property in Canada.
- Temporary residents who hold a work permit or are otherwise authorized to work in Canada and meet all the following: they have 183 days or more remaining on their work permit on the date of purchase and they have not purchased any other residential property in Canada.*
- Foreign nationals who are diplomats, consular staff and members of international organizations.
- Temporary residents in Canada due to an exemption under section 25.2 of the Immigration and Refugee Protection Act (IRPA). This is a special exemption for those fleeing international crises (ie. war in Ukraine, Hong Kong residents public policy, etc.) and an immigration professional should be consulted to see if the buyer meets this exemption.
- A refugee with a successful claim in accordance with subsection 99(3) or IRPA. Again, please consult with an immigration professional.
The ban only applies for some residential properties.
- Does not apply to residential properties outside of census agglomerations or census metropolitan areas. This exemption is meant to exempt certain recreational properties (ie. cottages) that would otherwise be caught in the foreign buyer ban but it should be noted that some cottage areas are not excluded.
- Does not apply to residential properties with four or more individual dwelling units (ie. quadplexes and more, or apartment buildings).
There are exemptions for some types of purchases
- Acquisition due to death, divorce, separation or a gift.
- Rental of a property to a tenant for the purpose of its occupation by the tenant.
- Transfer under the terms of a trust that was created prior to January 1st 2023.
- Transfer resulting from the exercise of a security interest or secured right by a secured creditor.
Consequences for any person who contravenes the foreign buyer ban is a $10,000 fine.
- Furthermore, the non-Canadian can be ordered to sell the property bought in contravention of the ban and the most the non-Canadian purchaser can receive from the sale is the purchase price they paid for the property when they bought it.

Table of Contents

How long does the foreign buyer ban last?

The Act comes into force on January 1st 2023 until December 31st 2024 and is meant to be a temporary measure to reduce foreign demand for Canadian real estate to alleviate the housing crisis in Canada.

The foreign buyer ban will not affect foreign buyers who have already entered into a binding agreement of purchase and sale prior to January 1st 2023. The ban also applies to buyers signing pre-construction APSs and assignees during the period of the ban.

Who is banned from buying?

The Act applies to “non-Canadians”. Section 2 of the Act defines “non-Canadian” to mean:

Individuals who are neither Canadian citizens, registered Indian, nor permanent residents of Canada.
Corporations incorporated outside Canada.
Corporations incorporated in Canada but controlled by foreign corporations or individuals who are not Canadian citizens nor permanent residents of Canada. The Regulations have a strict definition of control; direct or indirect ownership of shares representing 10% or more of the value of the equity or voting rights OR control in fact through ownership agreements, etc.
Other persons/entities to be defined in the Regulations.

Importantly, there are several exemptions to the foreign buyer ban outlined in subsection 4(2) of the Act:

Temporary residents within the meaning of the Immigration and Refugee Protection Act and meet the requirements in the Regulations, specifically:
- Certain students in Canada who meet the following requirements:
  - Must be studying at a designated learning institution (a list which can be found here). There are some small private colleges that might not be on this list.
  - Filed all required income taxes in the preceding five years in which the purchase was made. Note that only required income taxes need to be filed, students who had no income or other filing requirements do not need to file those preceding year tax returns.
  - Physically present in Canada for a minimum of 244 days in each of the five years preceding the date of purchase. This means that the students needs to have been in Canada for at least five years to meet this requirement. The 244 days is meant to cover the typical school term.
  - The purchase price of the residential property does not exceed $500,000.
  - They have not purchased more than one residential property. The wording in the Regulations is not very clear but my interpretation is that the purchase must be their first residential property. Property owned outside Canada does not count based on the Regulations.
- Certain workers in Canada who meet the following requirements.
  - Hold a work permit or are otherwise authorized to work in Canada. Some temporary residents in Canada do not need a work permit and they would still be eligible for this exemption.
  - Have 183 days or more of validity remaining on their work permit or work authorization on the date of purchase. The date of purchase being the closing date on the APS. This requirement was added in the March 27th amendment to the Regulations.
  - They have not purchased more than one residential property. Again, similar to the student exemption, my interpretation is that the purchase must be their first residential property and property owned outside Canada does not count.
Diplomats, consular staff, and members of international organizations.
Temporary residents in Canada under a visa provided under section 25.2 of the IRPA. This visa is provided for humanitarian and compassionate reasons and meant to exempt those fleeing international crises (ie. war in Ukraine, Hong Kong residents public policy, etc.). This is a very useful exemption as it means the buyer does not need to meet the other requirements for temporary resident students and workers above.
Refugees who have made a claim for refugee protection under subsection 99(3) of the IRPA and the claim has been found eligible.
Non-Canadian individuals who purchase with a spouse who is a Canadian citizen, permanent resident, registered Indian, a refugee, or a temporary resident who meets the student and worker exemptions above.

Types of Property Affected?

The foreign buyer ban applies to “residential property” under the Act, meaning:

Detached houses or similar buildings containing less than four dwelling units.
A part of a building that is intended to be owned apart from any other unit in the building (ie. semi-detached house, rowhouse, condominium unit).
Vacant land that is zoned for residential or mixed use located within a census agglomeration or a census metropolitan area (more on the definitions below).

The Regulations exclude property outside a census agglomeration (CA) or a census metropolitan area (CMA). A CA has a core population of at least 10,000 and a CMA has a total population of at least 100,000 of which 50,000 or more live in the core. This exclusion is meant to exclude recreational properties, mainly cottages, from the ban but some popular areas such as Squamish in BC and Collingwood, Wasaga Beach and Kawartha Lakes in Ontario are included. CA and CMAs can be confirmed here by filtering for CA/CMA.

What are the consequences?

Every person who contravenes OR helps contravene the foreign buyer ban will be guilty of an offence and liable to be fined up to $10,000. Real estate agents, lawyers, builders, and even sellers should be aware of the wide reaching implications of these penalties.

Section 7 of the Act also states that the court may order the property bought under the foreign buyer ban to be sold. The Regulations state that the order for sale can only be made; if the non-Canadian is still the owner when the order is made, notice has been given to every person who may be entitled to receive proceed from the sale, and the impact would not be disproportionate to the nature and gravity of the contravention.

More importantly the order will result in the non-Canadian receiving an amount not greater than the purchase price they paid for the residential property. Meaning that after repaying any court costs and Canadian co-owners or third parties (ie. mortgage, liens, other creditors, etc), any net gain is paid to the government. This is potentially a much bigger “fine” than the $10,000.00 for contravening the foreign buyer ban.

Conclusion

The two year foreign buyer ban along with the recent changes to the GST/HST on Assignments and Ontario’s expansion of the NRST is a continuing trend of government intervention to tackle the housing affordability crisis. Combined with the rising interest rate environment and the potential for a recession in the coming years, there will be a lot of uncertainty.

Notes

*Prior to March 28th 2023, the requirements were: worked full time (30hr/week) in Canada for a minimum three years within the four years preceding the year in which the purchase was made, filed required income tax returns for said years, and have not purchased any other residential property in Canada