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Tips and Traps Regarding Capital Losses

16/11/2009


Let’s face it – no one really likes to trigger losses, but the silver lining of triggering a loss is that losses can actually help your tax situation. When we talk about losses, most people assume it to be a capital loss in which you have sold something for less than you originally paid for it; however it is important to keep in mind that there are many other types of losses.

Capital losses are subject to the 50% rule where 50% of the capital loss is used against the taxable capital gain, thus reducing total tax owed on capital gains. When a capital loss is incurred, it can only be used against capital gains. It is not possible to trigger a capital loss to off-set other forms of income. The capital loss may be used in the year it is incurred, carried back 3 years or carried forward indefinitely. If your investment advisor suggests that you trigger capital losses, it is important to ensure that you have capital gains to use against the loss otherwise the loss will sit indefinitely.

Corporate Capital Losses Tips
• If your capital loss is incurred inside your company, it can reduce the capital dividend account. Since capital dividends can be paid to individual shareholders free of tax, it is therefore, always a good idea to clear out the capital dividend account before triggering capital losses to ensure capital dividends are not reduced by the capital loss.
• When a capital loss is carried back against a prior year capital gain, the company may have to repay the refundable dividend tax on hand it has previously received. This can be surprising as the amount of the actual refund is less than what is expected.
• If you are considering selling or buying a company with capital losses, they will be lost at the time of the acquisition of control. The new owners will not be able to use them against future capital gains. As such, planning should be done prior to the transaction to ensure the capital losses are used at the time of the acquisition of control.

Personal Capital Losses Tips

• It is not desirable to carry the loss back against capital gains that were previously sheltered by the capital gain deduction, as the individual was not taxed on the capital gains sheltered by the capital gain deduction.
• If there were no capital losses in the prior three years, the loss will be carried forward. Therefore in future years, you could dispose of shares of your private company and use the capital loss to off-set against the capital gain incurred.

There are many planning opportunities surrounding the use of capital losses. It is always a good idea to consider bringing your accountant and investment advisor together to develop a plan that outlines the best strategy for triggering capital losses in both your personal and/or corporate finances