Canada: Superficial Loss Rules

Last Updated: January 6 2016

Introduction Superficial Loss Rules

If you own capital property that has gone down in value, you’ll want to ensure that you can maximize the potential tax savings by using losses in particular ways. Depending on how you go about selling the property to realize a loss, there is a danger that these tax savings could disappear.

Income tax rules in Canada restrict how you can utilize capital losses if you don’t permanently dispose of the property. These are known as the "stop-loss" rules, and they operate to deny taxpayers the use of losses in certain circumstances. For individuals, the most important rules to be aware of are the "superficial loss" rules.

Superficial Loss Rules for Income Tax in Canada

The Canadian Income Tax Act (the "Tax Act") contains provisions that are designed to prevent the selling and trading of losses between Canadian taxpayers. One of the ways the Tax Act does this is through the "superficial loss" rules. They state that a taxpayer’s loss from the disposition of capital property is deemed to be nil to the extent that they are superficial losses. Generally the superficial loss rules do not apply when a corporation disposes of property to another corporation. When a person does capital transactions with another person or a corporation the superficial loss rules may be triggered. Income tax planning advice from one of our Ontario income tax planning lawyers will help you if you want to claim a capital loss.

Simply speaking, a superficial loss is the loss from the disposition of property where:

  • The same or identical property (also known as substituted property) is acquired by the individual or an "affiliated person" during a period beginning 30 days before the disposition and ending 30 days after the disposition;
  • At the end of the period, the individual or the affiliated person owns or has a right to acquire the substituted property.

To clarify, when an individual disposes of a capital property and the same or substituted property is acquired by the individual or an "affiliated person" within the 61 day period, the loss will be considered superficial and deemed to be nil.

The purpose of these rules is to prevent taxpayers from artificially crystallizing a loss at a time of their own choosing and then reacquiring the property. For example, if a taxpayer knows that there are accrued losses in shares that they own, they may wish to realize the loss immediately but still maintain ownership of the shares. They could do this by either selling the shares, realizing the loss and then repurchasing shares, or by selling the shares to a spouse for fair market value and realizing the loss. The superficial loss rules prevent such aggressive tax planning.

Affiliated Persons for Income Tax Purposes

In order to determine if the superficial loss rules are triggered, it is necessary to look to the definition of "affiliated person" under the the Canadian Income Tax Act.

Subsection 251.1(1) of the Tax Act defines "affiliated persons" as:

  • An individual and a spouse or common-law partner;
  • A corporation and the person by whom the corporation is controlled, including the spouse or common-law partner of the controlling individual;
  • A partnership and the majority interest partner;
  • A trust and the majority-interest beneficiary, including the spouse of the majority interest beneficiary.

The superficial loss rules therefore operate to prevent the realization of losses by a taxpayer by taking into account close relationships.

Exemptions from the Superficial Loss Rules

Although the criteria for superficial losses may be met, there are exceptions.
For example, a disposition will not result in a superficial loss if it is or deemed to be a disposition that arose as a result in a change of use of the property contemplated under the Tax Act which deals with change of use for certain types of property. So, for example, if a taxpayer decides to move out of their home and rent the vacated property, the superficial loss rules will not apply. Other sections of the Tax Act normally deem a disposition in these circumstances regardless of the fact that ownership may not have changed hands in the first place.

Other exemptions to the superficial loss regime are:

  • In the case of deemed dispositions on the death of a taxpayer;
  • A deemed disposition upon the taxpayer’s change of residence;
  • The expiry of an option.

Given that the sharing of losses within a corporate group is normally acceptable under Canadian tax law, paragraph 40(3.3)(a) of the Tax Act serves to exempt most dispositions made by corporations.

Capital Losses are not "lost" Although superficial losses deem the taxpayer’s loss to be nil at the time of disposition the loss does not completely disappear. When a taxpayer disposes of a capital property and then reacquires it within the 61 day period, or the property is acquired by an affiliated person, the amount of the superficial loss is then added to the adjusted cost base of the capital property in question. This means that the loss does not stay in the hands of the seller, but rather follows the property. The loss will be realized by the new owner of the capital property when they dispose of it at a later date by virtue of the adjustment to the property’s adjusted cost base. This creates some interesting and attractive planning opportunities.

Income Tax Planning and the Superficial Loss Rules

As was already mentioned, the definition of "affiliated persons" is quite narrow, and problems most often arise when spouses attempt to trade losses between each other. Should a taxpayer wish to realize losses but still maintain economic ownership of capital property through family members, the property may be sold to a family member such as a child to avoid the superficial loss rules. It would appear that the superficial loss rules actually enable the transfer of losses from one individual to an affiliated person providing certain steps are taken. For example, if the owner of the capital property transfers that property to his or her spouse, the transferor spouse will be able to utilize those losses to offset gains from other sources providing certain other steps are taken. First, in order to ensure that the losses will not be attributed back, the spouses will want to make an election to have the transfer take place at fair market value and to actually take back proceeds equal to that amount. Secondly, the transferee spouse should wait until the 61-day period has expired before disposing of the shares and realizing the loss.

Though both of these strategies have been successful in the past, the income tax rules are changing. The CRA has been using the General Anti-Avoidance Rule found in the Tax Act to clamp down on over aggressive tax planning. Anyone attempting to share losses through the use of the superficial-loss rules would be well advised to seek professional advice from one of our experienced Canadian income tax lawyers.

From a single taxpayer perspective, the superficial loss rules can also be used to provide a "grace period" for realizing losses. For example, if at year end a taxpayer disposes of a capital property with an accrued loss, he or she will have 30 days within which to decide if they wish that loss to crystallize. If this is done at year end the taxpayer will have more time to investigate and determine which of the two tax years would be more beneficial to realize the loss.

The information is thought to be current to date of posting. Income tax law changes frequently and content may no longer reflect the current state of the law. This document is not intended to create an attorney-client relationship. You should not act or rely on any information in this document without first seeking legal advice. This material is intended for general information purposes only and does not constitute legal advice. If you have any specific questions on any legal matter, you should consult a professional legal services provider.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Contact the Author?
Click here to email the Author
In Association with
In Partnership with
Other Canada Advice Centres
Competition and Antitrust
Mergers and Acquisitions
Labour and Employment
More Advice Centers
Useful Resources
Forms available to download for income tax filing in Canada.
Hear David J. Rotfleisch discuss timely and highly topical tax matters during appearances and interviews with specialist publications.
Useful explanatory videos of income tax matters.
The following questions and answers are based on the proposed measures that were announced on December 7, 2015.
The official Government website of the CRA.
This guide is for any person who deals with the Canada Revenue Agency (CRA). The guide gives you information on the 16 rights set out in the Taxpayer Bill of Rights and explains what you can do if you believe that the CRA has not respected your rights.
The Office of the Taxpayers' Ombudsman (OTO) works to enhance the Canada Revenue Agency's (CRA) accountability in its service to, and treatment of, taxpayers and benefit recipients through independent and impartial reviews of service-related complaints and systemic issues.
Ontario personal income tax is an annual tax collected from individuals who are Ontario residents on the last day of the tax year or have income earned in Ontario for the tax year.
The following documents provide instructions for filing your 2015 income tax return.
If you earned income in B.C. or operated a Corporation with a permanent establishment in B.C. last year you need to file an income tax return. Find out when you need to file your income tax return, and if any tax credits or rebates apply to you.
Generally, a corporation must file an Alberta corporate income tax return (AT1) for each taxation year during which it has a permanent establishment in Alberta.
Tools
Font Size:
Translation
Channels
Mondaq on Twitter
 
Mondaq Free Registration
Gain access to Mondaq global archive of over 375,000 articles covering 200 countries with a personalised News Alert and automatic login on this device.
Mondaq News Alert (some suggested topics and region)
Select Topics
Registration (please scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions