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'Tax loss selling' can be a tax planning opportunity

'Tax loss selling'

An investment portfolio review to identify tax planning opportunities before the end of the year is always a wise decision.

In last week’s column, I discussed various tax planning ideas to consider before year end.

One of the concepts I mentioned but didn’t explain (due to space) is called “tax loss selling”. I decided to follow up this week and explain a little more.

How does “tax loss selling” work?

Tax loss selling today can be used to free up additional cashflow when you file this year’s taxes next spring. If you recognize capital losses on your non-registered investments this year and those losses exceed any capital gains recognized this year, the losses can be carried back to offset net capital gains reported in any of the last three taxation years.

This may generate a tax refund for those prior years when net capital gains were reported. Capital losses that cannot be applied to capital gains in the current year, or the previous three taxation years, can be carried forward into the future indefinitely.

If the capital losses cannot be immediately utilized, either through a loss carryback strategy or as a claim against capital gains anticipated this year or in the near future, then generally there will be no tax reason for realizing such losses today.

However, there are complex tax rules that can potentially deny the capital loss you may plan to realize.

Watch out for “superficial loss" rules

Superficial loss rules are intended to prevent you from realizing and claiming a capital loss for tax purposes when your actual intent is not to sell the property. These rules deny some (or all) of the loss for tax purposes where certain conditions are met.

The superficial loss rules apply if:

• During the period that begins 30 days before a disposition and ends 30 days after a disposition, you or a person affiliated with you, acquires a property (referred to as the “substituted property”) that is the same property or “identical property”, and

• At the end of that period, you or a person affiliated with you owns or had a right to acquire the substituted property

Double taxation is prevented by adding the amount of the superficial loss to the adjusted cost base of the substituted property, placing you in the same tax position relative to the substituted property as was the case prior to the transactions. No tax advantage is gained, but no tax disadvantage either.

What are “Identical properties”?

At the heart of the superficial loss rules is the definition of an identical property. Identical properties are properties that are the same in all material respects, so that a prospective buyer would not prefer one over another.

Who is an “affiliated person”?

A loss will fall within the definition of a superficial loss even if the substituted property is not acquired by you, but rather by an “affiliated person”. The definition of “affiliated person” is quite broad and includes the following relationships:

• You and your spouse or common-law partner

• You and a corporation or partnership controlled by you, your spouse or common law partner

• A trust and its majority interest beneficiary or their spouse

Here’s an example of how superficial loss rules work:

On Jan. 31, 2021, an investor purchased 100 shares of ABC Inc. for $100 per share.

The shares declined in value and on May 1, 2021, the investor sold the shares for $70 per share.

The investor repurchased the same shares of ABC Inc. two days after the sale at $70 per share.

Superficial loss rules will add the $30 loss per share to the new shares of ABC Inc. purchased and the capital loss will not be allowed to be claimed. As such, the shares of ABC Inc. purchased on May 3, 2021, will have an ACB of $100 per share, not $70 per share.

If the investor subsequently sells the shares of ABC Inc. in 2022, the capital gain realized will be the same as it would have been had the investor never sold the original shares back in May of 2021.

Tax loss selling is complicated and if you’re considering this approach, understanding the potential tax implications is critical.

Consult with your advisor to understand how such losses can work for you and to ensure losses you do trigger can be claimed as intended.

This article is written by or on behalf of an outsourced columnist and does not necessarily reflect the views of Castanet.

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About the Author

Brett, designated as a chartered investment manager and certified financial planner, is the regional director (Okanagan) for IG Wealth Management.

In addition to his “day job," Brett was appointed to the board of directors of FP Canada (formerly FPSC) in 2014, named as the board’s vice-chair in 2017 and took over as board chairman in 2019. 

Brett has been writing a weekly financial planning column since 2012 and provides his readers with easy to understand explanations of the complex financial challenges that they face in every stage of life.

Enhancing the financial literacy of Canadian consumers is a top priority of Brett’s and his ongoing efforts as a finance writer and on the regulatory side through the FP Canada board focus on this initiative.   

Please let Brett know if you have any topics that you’d like him to cover in future columns by emailing him at [email protected]

The views expressed are strictly those of the author and not necessarily those of Castanet. Castanet does not warrant the contents.

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