Capital gains tax in Canada, explained

What are capital gains?

When you sell an asset or investment for more than you bought it, you have a capital gain. Let’s say you purchased $1,000 worth of stock and then sold your shares for $1,500 two years later. In this case, you have a capital gain of $500. On the other hand, when your assets depreciate in value and you sell them for less than you bought, you have a capital loss.

Capital gains and losses can occur with many types of investments and property, including stocks, bonds, mutual funds, exchange-traded funds (ETFs), rental properties, cottages and business assets. Capital gains and losses generally do not apply to personal-use property where the value generally decreases over time, such as cars and boats. There may be exceptions for personal-use property like rare coins or collector cars. Capital gains tax does not apply to real estate that qualifies as your principal residence for all years you owned it.

How are capital gains taxed in Canada?

Many Canadians consider capital gains a form of “passive income.” However, capital gains are taxed differently than other passive income sources, such as interest income, Canadian dividends and foreign dividends. They’re also taxed differently than employment income, due to what’s known as the capital gains inclusion rate.

Capital gains are added to your income for the tax year in which they are earned—just like employment income. As long as the gain is “unrealized,” meaning the asset remains in your possession, you do not have to pay taxes on it. So, capital gains can be deferred more easily than other passive income sources. The difference is that, unlike employment income, which is fully taxable, only a portion of a capital gain is actually taxed.

The second factor that determines the tax paid on a capital gain is your total income for the year. In this sense, you could say capital gains are comparable to regular employment income. As you earn more income, you climb further up Canada’s federal and provincial/territorial tax brackets—also known as marginal tax rates. Your marginal tax rate refers to the rate at which your next dollar earned will be taxed, according to those brackets. The higher your total income (including employment) is for the year, the more tax you can expect to owe on a capital gain.

This means there’s no single capital gains tax rate in Canada, because the rate at which you’re taxed depends on how much you earn in a given year.

To know how much you’ll owe in capital gains tax, you must first figure out your total income for the year and your federal and provincial/territorial tax brackets.

What is the capital gains inclusion rate?

In Canada, the capital gains inclusion rate is one-half (50%). In other words, only 50% of a capital gain is taxable. For example, an individual with a capital gain of $1,000 will only pay tax on half that amount ($500). The inclusion rate applies to individuals, trusts and corporations.