Did your bet on marijuana stocks blow up in your face? Do you own energy stocks – or other companies – that are deeply underwater? With the end of the year approaching, you may want to consider selling your dogs so that you can claim a capital loss for tax purposes.
Today, we’ll explore the strategy in detail.
What is tax-loss selling?
Tax-loss selling – also known as tax-loss harvesting – is an investing strategy that can lower your tax bill. When you sell a stock for a capital loss, you can use the loss to offset realized capital gains and reduce the tax you ultimately have to pay.
Any stock that has dropped in price since you bought it can be a candidate for tax-loss selling. This year, two sectors in particular – cannabis and energy – will probably see plenty of tax-loss selling given the hefty losses suffered by investors.
What exactly can I offset with my capital loss?
If you sell a stock for a loss in 2019, you must first use the loss to offset capital gains realized in 2019. Any unused net capital losses may be carried back up to three years, or forward indefinitely, to offset capital gains in those years.
Tax-loss selling only applies to non-registered accounts. If you have a loss in a registered retirement savings plan (RRSP), registered retirement income fund (RRIF) or tax-free savings account (TFSA), you can’t use the loss to offset taxable capital gains.
I have some stocks that I want to sell for a tax loss. When is the best time to do that?
If you intend to claim the loss for the 2019 tax year, you must sell the shares on or before Dec. 27. Stock trades settle – that is, the cash and shares actually change hands – two business days after the trade date. With Dec. 28 and 29 falling on a weekend this year, a trade executed on Dec. 27 will settle on Dec. 31 – just in time for the loss to be claimed for 2019. However, it’s best not to leave it too close to the deadline or you could forget and be out of luck.
How are capital gains taxed?
Only half of capital gains are included in income and taxed at one’s marginal rate. For example, if you live in Ontario and have income of $100,000, your combined federal and provincial marginal tax rate on regular income is 43.41 per cent. If you report a capital gain of $10,000, you would pay tax of $2,170.50 ($5,000 multiplied by 0.4341).
If you also had a capital loss of, say, $2,000 in 2019, your net capital gain would be $8,000, so you would pay tax of $1,736.40 ($4,000 multiplied by 0.4341).
Can I immediately buy back the stock I just sold?
No. When you sell a stock for a loss, you must wait at least 30 days before you repurchase it. Otherwise, it will be considered a “superficial loss” and you won’t be able to use it to offset capital gains. The rule is designed to prevent people from selling a security and immediately buying it back for the sole purpose of claiming the loss.
Also, you can’t get around the superficial loss rule by buying the stock back in a different account controlled by you or your spouse. For example, if you sold a stock in your non-registered account and immediately repurchased it in your TFSA or RRSP – or in your spouse’s TFSA or RRSP – the capital loss would be denied for tax purposes.
What if I want to claim a capital loss, but I still like the stock or sector?
There are strategies to consider that allow you to remain invested during the 30-day waiting period. For example, if you intend to sell an energy stock for a tax loss but are concerned that the sector may rebound, you could immediately repurchase a different energy stock or fund – preferably one with a high correlation to the stock you sold – without triggering the superficial loss rule. At the end of the 30-day window, you could sell the second security and repurchase the original one.
Can I transfer a losing stock to my TFSA or RRSP and still get the loss?
Nope. You don’t get to use the capital loss in that case because, by transferring the shares instead of selling them outright, you are maintaining control. To avoid the superficial loss rule, you could instead sell the shares, contribute the cash to your TFSA or RRSP, and then wait 30 days to repurchase the shares in your registered account. Alternatively, as discussed above, you could purchase a similar but not identical security immediately.
On the other hand, if you transfer shares that have appreciated in value to a registered account, you’ll still have to report the capital gain for tax purposes. Hey, nobody said life is fair.
E-mail your questions to jheinzl@globeandmail.com.
John Heinzl