As tax time approaches, individuals with significant capital gains incurred during the year might be wondering if there are ways to reduce their taxes owing for the year.
Please note that Horizon CPA does not provide investment advice, only guidance on the tax treatment of investment transactions. Please consult your financial advisor before selling securities in your investment portfolio.
One method to lower your taxes is to sell properties at a loss to incur capital losses which will offset the capital gains. However, there are some important considerations to be made before using this strategy.
Consideration #1: Superficial Loss Rule
When selling property at a loss, the Superficial Loss rule must be considered.
What is a superficial loss? A superficial loss is incurred if you (or an affiliated person) acquired the same property 30 days before or after you dispose of the property.
For example, if property is sold on December 1st and then re-acquired on December 15th, the superficial loss rule applies and the loss will be denied for tax purposes.
Who is an affiliated person? For individuals, an affiliated person is their spouse or common law partner. Children and parents are excluded from this rule.
For example, if property is sold on December 1st and then re-acquired by your common law partner on December 15th, the superficial loss rule applies. If instead the property is re-acquired by your child or parent, the superficial loss rule does not apply.
Consideration #2: Cost Base Of Securities
The cost base of securities in your investment portfolio should be carefully considered before selling at a loss for tax purposes.
For tax purposes, the cost base of a security is the average cost base of that security owned across all of your brokerage accounts. This means that you cannot sell a security with a high cost base at a loss while you own the same security with a lower cost base in another account.
Consider the example below:
- You own 1 share of ABC Corp. in your brokerage account #1 with a cost of $1,000.
- You own 1 share of ABC Corp. in your brokerage account #2 with a cost of $10,000.
- ABC Corp. is currently trading at $8,000 per share
You cannot sell your brokerage account #2 share and claim a loss of $2,000 (Proceeds of $8,000 less Cost of $10,000).
For tax purposes, the cost base is your average cost of (($1,000+$10,000)/2) $5,500 and this transaction would result in a gain of $2,500.
Consideration #3: Cost Base of Other Properties
If other property, such as a rental property, has lowered significantly in value you might consider selling or transferring the property to trigger a loss.
If sold to a third party, you can sell the rental property at fair market value and claim the loss to offset your current year capital gains.
However, some individuals choose to keep their property in the family and transfer it to their child or parent to avoid the superficial loss rules (since children/parents are not considered to be affiliated).
If you are choosing to use this strategy, you should ensure that you do so in one of the following ways
- The property is sold to your child or parent at fair market value
- The property is gifted to your child or parent at fair market value
A transfer at any price other than fair market value (such as transferring at a nominal price of $10) will result in non-favourable tax consequences for either you or your parent/child.
Consideration #4: Personal-use Property
Only property that is used to generate income can be sold at a loss. This means that a loss incurred from selling property such as a personally used boat, vehicle, or your principal residence is denied for tax purposes
