Lifetime Capital Gains Exemption

Contact Neufeld Legal PC for your incorporation legal work at 403-400-4092 or Chris@NeufeldLegal.com

For Calgary small business owners, the Lifetime Capital Gains Exemption is an essential tax planning tool that allows individuals to reduce or eliminate the capital gains tax they would normally have to pay on the sale of Qualified Small Business Corporation (QSBC) shares.

A. Exemption Amount

The Lifetime Capital Gains Exemption has a cumulative lifetime limit per individual. As of June 25, 2024, the exemption limit for qualified small business corporation shares was increased to $1.25 million. This amount is indexed to inflation, with annual indexation scheduled to resume in 2026. This means that an individual can claim this deduction on one or more qualifying sales until they have reached the maximum lifetime limit.

B. Qualifying Property

With respect to small businesses, the Lifetime Capital Gains Exemption only applies to the disposition of QSBC Shares, which are shares of a Canadian-controlled private corporation (CCPC) that meet specific criteria related to the use of its assets.

C. Eligibility Criteria

To be eligible for the Lifetime Capital Gains Exemption, several conditions must be met:

• Canadian Residency: The individual claiming the exemption must be a resident of Canada throughout the year of the disposition.

• Ownership Period: For qualified small business corporation shares, the individual (or a related person or partnership) must have owned the shares for at least 24 months before the sale.

• Asset Use:

  • 24-month period: For the 24 months immediately preceding the sale, more than 50% of the fair market value of the corporation's assets must have been used in an active business carried on primarily in Canada.

  • At the time of sale: At the time of the sale, at least 90% of the fair market value of the corporation's assets must be used in an active business carried on primarily in Canada.

D. Mechanics of Lifetime Capital Gains Exemption

When QSBC shares are sold, the capital gain is calculated as the proceeds of disposition minus the adjusted cost base. In Canada, a portion of the capital gain is considered taxable income. The Lifetime Capital Gains Exemption allows you to deduct an amount from your capital gains, thereby reducing your taxable income.

As such, where a business owner sells their qualified small business shares for a capital gain of $1.75 million, they could use the Lifetime Capital Gains Exemption to shelter a portion of that gain from tax. With a $1.25 million exemption, they would only have to pay tax on the remaining $500,000 of the gain.

E. Key Considerations on Lifetime Capital Gains Exemption

• Planning is Crucial: Meeting the eligibility requirements, particularly the asset and ownership tests, often requires advance planning. It may be necessary to restructure the business or sell non-qualifying assets before a sale to ensure the corporation meets the criteria. Also, given the finite nature of the lifetime capital gains exemption, alternate tax strategies might be more appropriate for a particular business disposition.

• Cumulative Net Investment Loss: There may be the potential to reduce one's capital gains deduction through the application of one's cumulative net investment loss. Once again, given the finite nature of the lifetime capital gains exemption, utilizing other available tax minimization tools to effectuate the permissible reduction of taxes should be considered as part of an overall tax planning strategy.

• Professional Tax Consultation: The rules for the Lifetime Capital Gains Exemption are complex. It is highly recommended to seek advice from a tax professional to determine eligibility and to plan a disposition to maximize the benefit of the exemption, while considering other available tax planning options to determine the best long-term strategy for the particular transaction.

Although there are numerous permissible tax strategies and tax advantages arising from a corporation, it is important that those tax strategies are appropriately applied, especially where they have changed over time. For professional legal services related to optmizing your corporate business, including permissible tax strategies to optimize your return from a corporate business, contact our law firm at 403-400-4092 or via email at Chris@NeufeldLegal.com to schedule a confidential consultation.

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