Tax loss harvesting is a helpful strategy to reduce your tax bill. However, it can be tricky to understand and navigate. Especially if this is your first time utilizing tax loss harvesting in Canada. Although, if you have capital gains for the current tax year, you won’t want to miss out. It’s not too late to reduce your upcoming tax bill either — you have until December 31 to execute your tax loss harvesting strategy.

In this blog post, we’ll break down tax loss harvesting for Canadians, so you can make the most of this valuable tax strategy. We’ll cover what it is, how it works, and some additional tips and tricks. Read on to learn more.

What is tax loss harvesting in Canada?

A capital loss can only be used to offset a capital gain, according to Canadian tax laws. You may have incurred a capital gain by selling investments, such as stocks, bonds, real property and virtually any other asset. To reduce tax on a capital gain, investors sometimes sell off other investments with a loss. This is known as tax loss harvesting or tax loss selling.

For example, let’s say an investor sells a security for $15,000 that they originally paid $10,000 for. This would trigger a $5,000 capital gain. Within the investor’s portfolio, there is also an asset worth $5,000 which was originally purchased for $10,000. The investor decides to sell the asset at a loss which would eliminate the capital gain, for tax purposes.

Tax loss harvesting can be a powerful tool for reducing your tax bill, but it’s important to remember that it comes with some trade-offs. For one thing, you’re giving up the potential upside from the investment you sold. Additionally, you need to be mindful of the “wash sale” rule, which prohibits you from buying back the same, or substantially identical security, within 30 days before or after selling it at a loss. There are some other restrictions to consider as well, which we’ll explore further in this article.

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Why should I consider tax loss harvesting?

The most important reason why you need to consider tax loss harvesting is that it can help you save money on your taxes. When you sell an investment for a profit, you are typically required to pay capital gains taxes on the sale. However, if you sell an investment at a loss, you can use that loss to offset any capital gains realized during the year. This can significantly reduce your tax liability. In addition, tax loss harvesting often rebalances your portfolio and frees up cash to reinvest in other assets.

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Capital gains tax: a quick overview

Capital gains tax arises on the profit of the sale of an asset that has increased in value. The tax is paid on the difference between the sale price and the purchase price, minus any costs associated with the sale. The amount of capital gains tax you pay depends on your income tax bracket and other financial activity from the year. Keep in mind that capital gains tax only arises when an asset sells. If you hold an asset that has appreciated in value, no tax would arise until it is sold and no longer in your possession.

In Canada, only 50% of the total capital gain is taxable. Capital losses embody the same logic as capital gains, just the asset in question sold for less than originally purchased for. Canadian tax law says capital losses can only be applied against capital gains. The same 50% rule applies for capital losses, meaning only half the loss is subject to taxation.

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How does tax loss harvesting work in Canada?

In order for tax loss harvesting to work, investors need to have invested assets that have increased in value as well as investment losses. If an investor only has investment losses, they will not be able to use them to offset any gains and, as a result, tax loss harvesting will not be effective. In addition, there must be a realized capital gain to trigger the need for tax loss harvesting. Therefore, the first step is to estimate your capital gains for the current tax year.

The second step in tax loss harvesting is to identify investment assets that have lost money. This can be done by looking at the cost base of the asset and comparing it to the current market value. If the cost base is higher than the current market value, then the asset has lost money.

From there, you can sell the investments with a loss to offset your capital gain. However, the capital loss you trigger should not exceed the amount of the capital gain. The capital loss should be enough to eliminate part or exactly all of the capital gain in question. If capital losses exceed capital gains, you may run into issues with your taxes because the rules around these losses are strict.

Be sure to keep adequate financial records of your asset sales, whether it’s a gain or loss. This documentation will come in handy when you complete your tax return. Also, you may have to present these records in the event of a CRA audit.

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Things to Consider When Tax Loss Harvesting in Canada

The following are important things to take into account when tax loss harvesting in Canada:

Superficial loss

The Canada Revenue Agency’s “superficial loss” rule prevents investors from playing the system to lower their income tax payments. This tax loss harvesting 30 day rule states that a capital loss cannot be deducted from your income for the year if you sell an investment and buy the same property within 30 days. In other words, you cannot sell an asset with a loss to reduce your tax bill then repurchase the asset in a short period of time.

Portfolio rebalancing

Tax loss harvesting involves the selling of assets with both gains and losses. This is an excellent opportunity to reassess a balanced portfolio. You can move around the cash in your portfolio to realign with your investing goals.

Inclusion rate

The inclusion rate in 2021 is 50% in Canada. To compute the tax burden on the ensuing investment sales, you just multiply your capital gain or loss for the year by this rate. From there, you will arrive at a taxable capital gain or loss. Over the years, the rate can change. Be mindful of this when tax loss harvesting.

Investment type

The ease or difficulty of tax loss harvesting will depend on the type of investments. Some investments are more liquid, meaning easier to convert into cash, than others. For instance, selling assets on public stock exchanges is usually much quicker than selling a piece of real property, like real estate or a car. For this reason, it can be challenging to tax loss harvest in time for tax season if it takes a long time to complete the sale.

Long-term strategy

Generally speaking, tax loss harvesting is a short term strategy. It is used to reduce taxes in the current year. However, it does not consider the long term position of your investments. For this reason, you should take a moment to consider your long term investing strategy before selling an asset at a loss. Who knows, maybe the asset in question will eventually turn a profit!

Eligibility

Only investments sold in non-registered accounts can take advantage of tax loss harvesting. Tax exemptions apply to capital gains held in registered accounts like RRSPs and TFSAs. The CRA prohibits the use of registered account capital losses to offset profits in other accounts.

Outside of investment accounts, eligibility isn’t as important. Virtually any asset that you hold and sell for a gain or loss will trigger capital gains tax.

Year-end deadline

The tax year in Canada is always January 1 to December 31. When reporting your capital gains and losses on your return, the transactions must fall within this period. You cannot claim a capital gain from a previous year in the current year, for example.

The only exception is capital loss carryforwards. If you don’t have a capital gain to offset a capital loss, resulting in an excess capital loss, you can carry it forward to future tax years indefinitely. This means you can apply a capital loss from this year against a capital gain in the next year. Capital losses can also be carried backwards 3 years. However, it can be a challenge to open a previous tax year and refile.

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How to tax loss harvest

Tax loss harvesting consists of three steps:

• Step 1: Estimate capital gains. First, you need to estimate your current capital gains for the year, and losses if they apply. This will determine how much you need to tax loss harvest.
• Step 2: Identify unprofitable securities. Next, you can identify assets that are unprofitable. This step includes estimating the capital loss that will arise if you sell by comparing the original purchase price and fair market value.
• Step 3: Sell unprofitable securities to reduce or eliminate capital gains. Lastly, sell the unprofitable assets that will reduce or eliminate your capital gain. The goal here is to try and get the net capital gain as close to $0 as possible. If you end up with an excess capital loss — don’t worry. You can always carry it forward to the next tax year.

Don’t forget to keep records of all your asset sales! These are important documents for filing your taxes and assisting in a potential audit.

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Tax loss harvesting example

In January 2023, Felicia sold Investment A at a profit. She originally purchased the investment for $1,000 and sold it for $10,000, resulting in a $9,000 capital gain. Felicia was reading an article on Advisorsavvy’s website in September of 2023 about capital gains and realized she would have to pay tax on $4,500 of her investment sale (50% of $9,000). Worried about a large tax bill, Felicia decides to execute a tax loss harvesting strategy.

Felicia finds Investment B in her portfolio which is worth $3,000, but she originally purchased it for $9,000. She estimates there will be a capital loss of $6,000, or a $3,000 taxable capital loss. She also finds Investment C that’s worth $1,000 which she originally purchased for $2,000. This investment has a capital loss of $1,000 or a $500 taxable capital loss. Below is a summary of Felicia’s investment activity from 2023.

Investment A
Adjusted cost base	$1,000
Sale price	$10,000
Capital gain	$9,000
Investment B
Adjusted cost base	$9,000
Sale price	$3,000
Capital loss	($6,000)
Investment C
Adjusted cost base	$2,000
Sale price	$1,000
Capital loss	($1,000)
Capital gain on all investments
Net capital gain ($9,000 – $6,000 – $1,000)	$2,000
Net taxable capital gain ($2,000 x 50%)	$1,000

After tax loss harvesting, Felicia only has to pay capital gains tax on $1,000, instead of $4,500, which significantly reduces her tax obligation.

What are the rules for tax loss harvesting?

Tax loss harvesting does come with some restrictions in Canada. Generally speaking, any kind of loss or deduction has more restrictions than income and gains when it comes to taxes. Here’s a summary of the rules to consider:

• Apply capital losses against capital gains. Capital losses can only be applied against capital gains. Unfortunately, capital losses cannot be applied against other types of income.
• 50% rule. Only 50% of capital losses are taxable (same with capital gains). This is an important element to consider when tax planning.
• Superficial losses and wash sales. Some people have attempted to play the tax system by selling investments to take advantage of tax loss harvesting. Then, buying the investments back once the tax benefit is received. This is not allowed under Canadian taxation laws. If you’re going to sell an investment and buy it back to take advantage of tax loss harvesting, you must wait at least 30 days in between the sale and repurchase.

Is tax loss harvesting worth doing?

If you want to end 2023 on the right foot, think about doing some tax loss harvesting before December 31st. Otherwise, you might end up with an unexpected tax bill on your capital gains. It can be an administrative burden, but capital gains taxes are hefty, so it’s worth the additional work. And if you need help during the process? A financial advisor can help. Complete this quick questionnaire to be matched with one today!

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