Show Transcript
The Lifetime Capital Gains Exemption has topped $1 million. For owners selling a business, the LCGE can allow you to keep more money in your pocket. Pierre Létourneau, Business Succession Advisor, TD Wealth, joins Kim Parlee to talk about some ways to maximize your use of this important tax tool.
*In the 2024 budget unveiled on April 16, the federal government proposed an increase in the Lifetime Capital Gains Exemption from the current amount of just over $1 million to $1.25 million. This measure would apply to dispositions that occur on or after June 25, 2024.
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* Welcome back. 2024 marks the first time the Lifetime Capital Gains Exemption has topped $1 million. And this may be a big deal if you're selling a business. Pierre Létourneau, Business Succession Advisor at TD Wealth, joins me now to give us a little more information. Nice to see you.
* Nice to see you, too.
* Let's start off. What is the Lifetime Capital Gains Exemption and how does it really benefit business owners?
* Sure. So the Lifetime Capital Gains Exemption is a tax benefit that's available to eligible individuals, which allows them to claim a deduction to reduce their taxes and maybe eliminate taxes payable on capital gains earned when they sell a certain asset. To be eligible you need to be a resident of Canada. It's only available to individuals, so a corporation isn't entitled to the exemption.
- And for business owners, where it's beneficial to them is the exemption is available on the sale of shares that are Qualified Small Business Corporation shares, so QSBC shares. So it becomes a very important tax planning tool for them when they're looking to sell or transfer their business.
* So you mentioned the QSBC shares. Are there any other conditions that have to be met for a business to qualify for this?
* So in particular for the QSBC shares, there are very complex rules. And there's three main tests that need to be met. But in the interest of time, I'm just going to focus on one that I see that is a common pitfall. So the basic asset tests-- and in order to meet that test for a 24-month period prior to the sale of the business, the shares have to be shares of a Canadian-Controlled Private Corporation, so CCPC. And at least 50% of the value of the corporate assets have to be active business assets. So they can't be passive assets like excess cash or investment assets. So if you're--
* An operating business.
* Yeah, in the operating business, right. So if it's a passive asset and the passive assets represent more than 50% of the value of the corporation, you're offside. So at any point in time in that 24-month window you're offside, then the shares aren't QSBC shares and the exemption is not available.
* Let me ask you about the $1 million number, although a million isn't what it used to be. But anyway, I know the number now I think specifically is $1,016,836 right now in terms of the exemption that's available. What does it mean? Like, how does that work?
* So the exemption represents the amount of gross capital gains that won't be taxable, that is sheltered from tax. And it's indexed to inflation. So that's why it's now over $1 million. It increases every year with inflation.
- So that represents roughly a tax savings of $250,000. And the exact number depends on your tax bracket and also which province you reside in, because tax rates vary from province to province and territories.
* And I know-- you mentioned to me earlier, too-- we have to be mindful of the Alternative Minimum Tax for this as well, too.
* Correct, correct, absolutely. So in a situation where you're using the exemption and you don't have any other source of income, you may have to pay AMT, which is recoverable. And hopefully you can recover that over time.
* All right, let's bring up a board just to show us an example scenario of how this might work. You said $250,000 in terms of savings. But just take us through what we're looking at.
* Sure. So let's say you start your business, and it's not worth much at the beginning and you just incorporate your business. So you get shares for the corporation that are nominal worth, so your ACB is nominal. And then you work really hard at your business. It's very successful.
- It increases in value. And let's say it's now worth $4 million. You find a purchaser that's willing to buy the shares for $4 million. So on that sale, you earn a capital gain of $4 million.
- The taxable component of that capital gain is $2 million, because only 50% of a capital gain is taxable. And let's use an approximate tax rate of 50%. Your total tax bill for that transaction is $1 million.
* Right.
* Now, if you use the exemption, $1 million of that $4 million is exempt. You're left with $3 million. Half of that is taxable, $1.5 million. And then your tax bill is now $750,000. So that's where you get the $250,000 tax savings per individual.
* And it's material. And then you were talking to me earlier, too, that if you plan for this-- and we'll get to this-- the use of family trusts can be something that can make this even bigger.
* Sure, absolutely. A family trust is a common tool that's used by business owners to multiply the Lifetime Capital Gains Exemption by accessing the exemption of other family members. So you can bring in family members into the business as owners through a family trust. So they don't necessarily have any control or say in the business, but they participate in the growth of the value of the business.
- So when the time comes to sell the business, the capital gain is earned by the trust but allocated to the beneficiaries, assuming the trust allows you to do that. And then when they report that capital gain, the individuals, the beneficiaries are able to then claim the exemption. And so in the example we just went through, if that business owner had three other family members that they were able to bring in through a family trust, if that was done at the right, appropriate time, they may be able to fully exempt the capital gain, the whole $4 million.
- Now, keep in mind that if a beneficiary is using their capital gains exemption, that capital gain-- those funds need to be distributed to them. So you need to be comfortable with having those individuals receive those funds. Also you need to be mindful of the 21-year rule. So after 21 years, a trust is deemed to have sold all of its assets. So you need to plan around that if your time horizon is longer than 21 years.
* I've got about 30 seconds here. But I do want to mention, just I keep hearing plan, plan, plan, because this is-- to make the best use of this and to be very thoughtful about all the tax savings you can have, you need to start early.
* Absolutely, that's the key point I think of today's discussion is that you need to start this early to make sure you qualify for the exemption. And if you want to bring in other family members, you need to bring them early so they participate in the growth of the value of the business. So you need good advisors around you, so good tax advisors, and a good investment advisor will help you plan for all that has to do with the Lifetime Capital Gains Exemption.
[AUDIO LOGO]
[MUSIC PLAYING]
* Welcome back. 2024 marks the first time the Lifetime Capital Gains Exemption has topped $1 million. And this may be a big deal if you're selling a business. Pierre Létourneau, Business Succession Advisor at TD Wealth, joins me now to give us a little more information. Nice to see you.
* Nice to see you, too.
* Let's start off. What is the Lifetime Capital Gains Exemption and how does it really benefit business owners?
* Sure. So the Lifetime Capital Gains Exemption is a tax benefit that's available to eligible individuals, which allows them to claim a deduction to reduce their taxes and maybe eliminate taxes payable on capital gains earned when they sell a certain asset. To be eligible you need to be a resident of Canada. It's only available to individuals, so a corporation isn't entitled to the exemption.
- And for business owners, where it's beneficial to them is the exemption is available on the sale of shares that are Qualified Small Business Corporation shares, so QSBC shares. So it becomes a very important tax planning tool for them when they're looking to sell or transfer their business.
* So you mentioned the QSBC shares. Are there any other conditions that have to be met for a business to qualify for this?
* So in particular for the QSBC shares, there are very complex rules. And there's three main tests that need to be met. But in the interest of time, I'm just going to focus on one that I see that is a common pitfall. So the basic asset tests-- and in order to meet that test for a 24-month period prior to the sale of the business, the shares have to be shares of a Canadian-Controlled Private Corporation, so CCPC. And at least 50% of the value of the corporate assets have to be active business assets. So they can't be passive assets like excess cash or investment assets. So if you're--
* An operating business.
* Yeah, in the operating business, right. So if it's a passive asset and the passive assets represent more than 50% of the value of the corporation, you're offside. So at any point in time in that 24-month window you're offside, then the shares aren't QSBC shares and the exemption is not available.
* Let me ask you about the $1 million number, although a million isn't what it used to be. But anyway, I know the number now I think specifically is $1,016,836 right now in terms of the exemption that's available. What does it mean? Like, how does that work?
* So the exemption represents the amount of gross capital gains that won't be taxable, that is sheltered from tax. And it's indexed to inflation. So that's why it's now over $1 million. It increases every year with inflation.
- So that represents roughly a tax savings of $250,000. And the exact number depends on your tax bracket and also which province you reside in, because tax rates vary from province to province and territories.
* And I know-- you mentioned to me earlier, too-- we have to be mindful of the Alternative Minimum Tax for this as well, too.
* Correct, correct, absolutely. So in a situation where you're using the exemption and you don't have any other source of income, you may have to pay AMT, which is recoverable. And hopefully you can recover that over time.
* All right, let's bring up a board just to show us an example scenario of how this might work. You said $250,000 in terms of savings. But just take us through what we're looking at.
* Sure. So let's say you start your business, and it's not worth much at the beginning and you just incorporate your business. So you get shares for the corporation that are nominal worth, so your ACB is nominal. And then you work really hard at your business. It's very successful.
- It increases in value. And let's say it's now worth $4 million. You find a purchaser that's willing to buy the shares for $4 million. So on that sale, you earn a capital gain of $4 million.
- The taxable component of that capital gain is $2 million, because only 50% of a capital gain is taxable. And let's use an approximate tax rate of 50%. Your total tax bill for that transaction is $1 million.
* Right.
* Now, if you use the exemption, $1 million of that $4 million is exempt. You're left with $3 million. Half of that is taxable, $1.5 million. And then your tax bill is now $750,000. So that's where you get the $250,000 tax savings per individual.
* And it's material. And then you were talking to me earlier, too, that if you plan for this-- and we'll get to this-- the use of family trusts can be something that can make this even bigger.
* Sure, absolutely. A family trust is a common tool that's used by business owners to multiply the Lifetime Capital Gains Exemption by accessing the exemption of other family members. So you can bring in family members into the business as owners through a family trust. So they don't necessarily have any control or say in the business, but they participate in the growth of the value of the business.
- So when the time comes to sell the business, the capital gain is earned by the trust but allocated to the beneficiaries, assuming the trust allows you to do that. And then when they report that capital gain, the individuals, the beneficiaries are able to then claim the exemption. And so in the example we just went through, if that business owner had three other family members that they were able to bring in through a family trust, if that was done at the right, appropriate time, they may be able to fully exempt the capital gain, the whole $4 million.
- Now, keep in mind that if a beneficiary is using their capital gains exemption, that capital gain-- those funds need to be distributed to them. So you need to be comfortable with having those individuals receive those funds. Also you need to be mindful of the 21-year rule. So after 21 years, a trust is deemed to have sold all of its assets. So you need to plan around that if your time horizon is longer than 21 years.
* I've got about 30 seconds here. But I do want to mention, just I keep hearing plan, plan, plan, because this is-- to make the best use of this and to be very thoughtful about all the tax savings you can have, you need to start early.
* Absolutely, that's the key point I think of today's discussion is that you need to start this early to make sure you qualify for the exemption. And if you want to bring in other family members, you need to bring them early so they participate in the growth of the value of the business. So you need good advisors around you, so good tax advisors, and a good investment advisor will help you plan for all that has to do with the Lifetime Capital Gains Exemption.
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