This is really just an update to a newsletter that I sent out in May, 2020.
The Good News
Many of you have read my numerous articles over the years concerning income splitting using low-interest prescribed rate loans. My latest offering on this subject was in January 2020.
Since 2009, with some exceptions, the prescribed rate for inter-family loans and certain other benefits has been 1%.
In the second quarter of 2018, the rate doubled to 2%. It may not sound like much, but if the loan is substantial, so is the change in interest.
As of July 1, 2020, the prescribed rate again dropped to 1%, opening up room for more income splitting among family members.
The good news is that the prescribed rate for the first quarter of 2022 will remain at 1%.
Capital Gains
For the last few years, every time we approached the time of the Federal Budget, people have been speculating about a possible increase in the capital gains inclusion rate. Currently, only 50% of a capital gain is taxable. It hasn’t always been so. Taxes on capital gains did not exist in Canada until 1972. This table shows the time periods and relevant capital gains inclusion rates:
With Parliament resuming sitting on November 22nd, it would not be surprising if we saw an Economic Statement before the end of the year. Tax measures can, and have often been, introduced in an Economic Statement.
In recent years, I have been one of the naysayers concerning an increase in the inclusion rate, but now the Government will be desperate for money – in a way that we haven’t seen before.
As we saw with Trudeau’s 2017 attack on small business, the middle class is right in the cross hairs.
Trudeau didn’t achieve the majority government he was looking for. If he did, tax increases across the board would have been likely. But we must assume that any increase in taxes for investors will be supported by the NDP, making an increase in the capital gains inclusion rate more likely.
I have been asked in recent weeks if I thought any increase, if it should happen, would take place upon announcement, or, say, at the beginning of the year. Obviously, nobody has a crystal ball.
However, perhaps “past is prologue”. On June 18th, 1987, the Government of Brian Mulroney, with Michael Wilson as Finance Minister, introduced a document called “The White Paper – Tax Reform 1987”. Many of us still debate whether the measures introduced were sufficient to be referred to as Tax Reform, but that is neither here nor there.
What was important, was that this was the introduction of an increase in the capital gains inclusion rate. Although the increase was announced in June 1987, the White Paper stated,
The inclusion rate - that is, the proportion of an individual's capital gain that is taxable - will be increased from the current rate of 50 per cent to 66 & 2/ 3 per cent in 1988 and to 75 per cent for 1990 and subsequent taxation years[. This will increase the maximum effective federal rate of tax on capital gains in excess of the lifetime exemption from 17 per cent currently to about 19 per cent in 1988 and 22 per cent in 1990.
So, there was a 16 month lag from June 1987 until January 1988 before the first increase, from 50% to 66 & 2/3%, and then a further 2 years before the increase to 75%.
BUT, it should be noted that there was no grandfathering for gains accrued prior to January 1988. So even if an asset was owned from 1980 to 1988, but was sold in 1988, the entire capital gain was taxed at the higher rate.
The 75 percent inclusion rate continued through the 1990s until February 27, 2000, when it was reduced to 66 & 2⁄3 percent. In the 2000 fall economic statement, the inclusion rate was further reduced to 50 percent, and that rate has continued to the present day.
The possibility of an increase in the inclusion rate raises some interesting questions for investors:
Should I trigger capital gains now, and pay the tax, in case there is an immediate increase in the inclusion rate, even though it means triggering tax that I wouldn’t otherwise pay until some time in the future?
Should I wait to trigger capital gains, relying on some largesse from Trudeau such as we saw from Mulroney in 1987, in terms of a time period before the increase would take effect?
Should I trigger capital losses now since triggering losses near the end of the year has always been a tried and true strategy?
Should I wait to trigger losses because, in cash terms, a loss that is 75% deductible is worth considerably more than a loss that is only 50% deductible?
All of these questions, and more, are important and none should be answered without proper investment and tax advice.
I would be pleased to work with your accounting and investment advisors to ensure that you obtain the best results in these uncertain times.
I hope everyone is staying safe.
- Chuck