Introduction
The current Canadian wealth situation
'Things don't work as well as they used to.' This is a common refrain voiced by many Canadians today. With the pandemic two years behind us we are dealing with the aftermath and the strains and divisions it has engendered. Canada, along with other countries, is beset with the spectre of homelessness in many urban settings across the country and with no easy solutions. As well, affordability has become a major issue as prolonged inflation has significantly increased the cost of living across the board.
The most significant issue is Canada's housing crisis. Home ownership that had always been the expectation and reality for past generations is becoming an elusive goal for younger people. While at the same time, rents have increased dramatically and vacancy rates are near-zero. The ability to construct needed housing stock will take many years. The government policy to increase immigration levels to unprecedented levels coming out of the pandemic to grow the economy has now been ratcheted back as more people immigrating has only put more fuel on the fire of the housing crisis as well as inflation. Canada also faces a productivity crisis, making it harder to deal with inflation. There has been no increase in living standards in a decade and there has been no increase in per person gross domestic product in seven years.
Canadians will face a federal election before October 2025 and the future direction of the country on many fundamental economic issues will be key. Multiple crises - housing, immigration, affordability and productivity have created an anxious mood. The current government has continued targeting high net worth individuals as needing to pay 'their fair share' in the recent increase in capital gains tax rates, creating division among Canadians and negativity overall. So yes, 'things don't work as well as they used to' and the challenge will be to move toward creating more stability and harmony. With many legislative and tax changes that came into effect in the last year, and private clients re-evaluating their individual situation, private client practice has never been busier.
Key factors in respect of private clients
Canada's constitutional system is a federal one, with a clear division of powers between different levels of government. Its primary legal heritage for all provinces and territories, with the exception of Quebec, is based on English common law; Quebec's is based on civil law.
From the private client perspective, Canada offers the stability of a highly developed legal and court system and charter-based human rights protections. Property law, including succession, is a matter of provincial and territorial jurisdiction. Many modern and innovative concepts affecting private clients have been pioneered or progressed ahead of other jurisdictions in Canadian law, including equalisation of property between spouses on marital breakdown and death in several Canadian provinces recognising marriage as an e6ual economic partnership, recognition of common law spouses' and same-sex spouses' property and support rights, same-sex marriage and medical assistance in dying.
Many Canadian jurisdictions have modern laws governing incapacity and substitute decision-making to take into account the need for a modern infrastructure to deal with an increasingly ageing population. Canada's multiculturalism and relatively open2door immigration policy, which are required to maintain positive population growth, ezpand the Canadian economy and are increasingly geared to attracting more entrepreneurs and skilled workers, have together created and contributed to a dynamic, sophisticated, diverse and innovative Canadian culture. Post2pandemic, Canada was set to bring in almost 1.– million new permanent residents by 2026 to boost Canada's post-pandemic economic recovery, but to address the current housing crisis and inflation this number has been scaled back as Canada faces a 'population trap'.
Year in review
Some of the most significant developments that have occurred in the past year have included the following4
- The capital gains inclusion rate has been increased for capital gains realised on or after 25 June 2024 which has kept many advisors very busy crystallising capital gains prior to that date to take advantage of the lower rate while it was still available. The inclusion rate increases from 50 per cent to 66.6 per cent on the portion of realised capital gains each year that exceed C$250,000 for individuals. In public statements, the government has stated that wealthy Canadians must pay their 'fair share'.
- The alternative minimum tax (AMT) which targets high income individuals has increased from 15 per cent to 20.5 per cent for 2024 and the exemption amount has increased from C$40,000 to C$173,206.
- New trust reporting rules came into effect in 2024, which was the first year many trusts had to file a tax return. The legislation covers a broad range of trusts, including 'bare trusts' which created great confusion regarding which arrangements are covered and the lack of clear guidance from Canada Revenue Agency, as a result of which four days before the filing deadline. Canada Revenue Agency announced that bare trusts were not required to file a tax return for the 2023 tax year. Substantial effort was expended by the trust and tax community in the weeks prior to the filing deadline to gather the necessary information to comply with the new rules.
- Changes to the general anti-avoidance rule (GAAR) came into effect on 20 June 2024 and apply to transactions that occur on or after 1 January 2024. The GAAR has been changed to reduce the threshold for determining whether a transaction is an avoidance transaction from a 'primary purpose test' to 'one of the main purposes test'. As well, a rule regarding economic substance has been introduced that provides that if an avoidance transaction that significantly lacks economic substance is indicative (but not conclusive), then the transaction is a misuse or an abuse.
- New rules have been introduced including 'notifiable transactions' which apply to individuals, corporations, trusts and partnerships, and apply to transactions that occur after 21 June 2023 for reportable and notifiable transactions. A list of notifiable transactions was released by Canada Revenue Agency in November 2023. It includes certain transactions to avoid a deemed disposition of trust property which can impact 21-year planning under Canadian tax rules which provide for a deemed disposition of trust property for certain trusts every 21 years.
- The Prohibition on the Purchase of Uesidential Property by Non-Canadians Act which bans certain foreign buyers of residential real estate in an effort to deal with the housing crisis and housing affordability has been extended for two further years to 1 January 2027.
Tax
Personal taxation
Federal and provincial or territorial income tax
Canada taxes Canadian residents on their worldwide income from all sources, and non-residents on certain Canadian-source income, subject to international tax treaties. Income for Canadian tax purposes includes income from employment, business, property, 50 per cent (or 66.66 per cent depending on certain factors) of capital gains, and various other income sources, less certain deductions.
Canada is a federal state consisting of 10 provinces and three territories. The provinces and territories also tax income generally on the same basis as the federal government, ezcept for Quebec, and increased federal tax applies to certain income not earned in a province or territory. Canadian tax is levied at graduated rates of up to approximately –– per cent in combined federal and provincial rates on taxable income, less applicable tax credits.
Canada taxes non-residents on income earned in Canada, notably income from business or employment in Canada, and from certain taxable Canadian property, including Canadian real estate. A withholding tax of 25 per cent is deducted from certain income payable to non-residents, subject to international tax treaties that reduce the applicable rates.
Capital gains regime
Unlike most jurisdictions, Canada has no gift or inheritance tax. Instead, it levies taxes on capital gains. Prior to 25 June 2024, 50 per cent of all capital gains are included in income upon actual disposition or deemed disposition. The Canadian federal budget in 2024 announced an increase in the capital gains inclusion rate from 50 per cent to 66.6 per cent for corporations and trusts, and 50 per cent to 66.6 per cent on the portion of realised capital gains each year that exceed C$250,000 for individuals for capital gains realised on or after 25 June 2024, and proposed legislation has been introduced. There is an exemption for capital gains on a principal residence and a lifetime exemption for capital gains on 6ualixed small business corporation shares and on 6ualixed farm or fishing property ($1,250,000 as of 25 June 2024). The basic tax unit is the individual. Limited opportunities ezist for income splitting, including through the use of trusts. Tax on capital gains may be deferred on certain transfers of property, for example, between spouses, or on rollovers into private corporations in exchange for shares.
Developments relating to personal taxation
Provincial or territorial tax brackets for high earners
The combined provincial or territorial and federal tax rates for high earners in 2024 range from 44.5 per cent in Nunavut to 54.8 per cent in Newfoundland and Labrador. The highest tax rate in 2024 in Ontario is 53.53 per cent. In 2015, Alberta introduced graduated tax rates for taxpayers. Prior to the new rates, all Albertans paid tax based on a flat provincial tax rate of 10 per cent. As of 1 October 2015, the highest combined provincial and federal tax rate for Albertans has been 48 per cent. Over the past 10 years, there has been a significant increase in the top marginal rate. Combined rates in Ontario and Quebec in 2009 were below 50 per cent.
Alternative minimum tax
Canada has had an alternative minimum tax (AMT) since 1986, and it imposes a minimum level of tax on taxpayers who claim certain deductions, exemptions and tax credits that reduce tax they owe to low levels. The AMT rate has been increased from 15 to 20.5 per cent for the 2024 tax year, and the basic exemption amount available to individuals and trusts has been increased to C$173,206 from C$40,000 and targets high-income individuals. The government projects that an additional C$3 billion of tax revenue will be generated over five years.
Intergenerational small business and farm transfers
A private member's bill received royal assent on 29 June 2021 and is now in effect. It limits the application of certain anti-avoidance rules that resulted in a sale of small business shares to an arm's-length purchaser being taxed at lower capital gains rates than a sale to a child or grandchild. The anti-avoidance rules operate so that the owner receives a dividend at higher rates. The result of the former rules was to penalise intergenerational sales because of this increased tax burden. The legislation levels the playing field so that a sale to a family member has the same level of tax as would a sale to an arm's-length purchaser, thereby facilitating intergenerational sales. However, the federal government later announced it would introduce legislation to safeguard against tax avoidance. Proposed amendments were introduced in the 2023 federal budget and received Royal Assent on 20 June 2024. The 2024 federal budget outlined further details, and later proposed legislation was introduced that includes new restrictions and additional requirements with the objective of ensuring that there is a genuine transfer of the business to the next generation.
Canadian Entrepreneur Incentive
The Canadian Entrepreneur Incentive 7CE;3 was announced in the 2024 federal budget. The related legislation has not yet been released. It is to be phased in over 10 years commencing 1 January 2025. It allows entrepreneurs in certain industries, including construction, technology and manufacturing a reduced capital gains inclusion rate when they sell a business on the first C$2 million of gains phased over 10 years of C)20M,MMM per year. The reduced gains inclusion rate is one-third (as opposed to two-thirds) on capital gains.
Employee ownership trusts
The 2023 federal budget introduced a new trust called an employee ownership trust to facilitate the sale of a business to an employee group, which has favourable tax treatment and is a new concept in Canada, but which follows a growing trend in other jurisdictions including the 8nited Qingdom and the 8S to increase employee ownership of businesses. This vehicle will potentially provide another option for business succession planning.
The new rules were enacted on 20 June 2024. There is a temporary tax exemption of up to C)10 million of capital gains where there is a sale to an employee ownership trust for the tax years 2024 to 2026, subject to certain conditions.
Uevised federal legislation on the taxation of trusts and new reporting requirements for trusts
Certain estates and testamentary trusts are taxed at graduated rates applicable to individuals, while trusts established during a person's lifetime are generally taxed at the top of marginal tax rates applicable to individuals. In 201J, graduated rates for certain estates and testamentary trusts were eliminated. Gow, the top marginal rate is applied to testamentary trusts and certain estates. However, graduated rates continue to be available to 'graduated rate estates' for RJ months and to certain testamentary trusts having disabled benexciaries who are eligible for the federal disability tax credit. In addition, the taxation year end for testamentary trusts is now R1 9ecember, and testamentary trusts are required to make instalment payments of income tax.
New trust reporting rules were introduced in $uly 201B, the implementation of which was delayed and which are now effective for taxation years ending on or after R1 9ecember 2023 further to federal Yill C2R5, which received Royal Assent on 15 9ecember 20245. Accordingly, 2024 was the first year for reporting under the new rules for many trusts. The legislation also re6uires a bare trust to file a tax return and provide disclosure of information. However, four days before the filing deadline, Canada Revenue Agency announced that bare trusts would not have to file a tax return for the 2023 tax year. The new rules re6uire the identity of settlors, trustees and benexciaries and those who have control over trustee decisions to pay income or capital, such as a protector, to be reported to the government. As well as this, trusts 7with limited exceptions3 must file a tax return. Previously, a trust would file a tax return only if it received income or made distributions to the benexciaries in a year. Gon2resident trusts that are required to file a trust tax return are also subject to the new disclosure rules. There are significant penalties for non2compliance of the greater of C)220M or – per cent of the highest fair market value of the trust's assets. With the onset of these new obligations, it is incumbent on trustees to gather the necessary information.
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