Superficial Loss

Superficial Loss

Publish at: 2021-12-10

You may tend to occur tax-loss selling either at year-end or during a downturn in the markets. These are appropriate times to implement tax-loss selling strategies that will provide tax relief when you file your T1 personal tax return.While this may sound pretty straightforward, some capital losses are considered “superficial” and cannot be used to offset capital gains. This article discusses the superficial loss rules and how they are applied.

How to define superficial loss?



The Income Tax Act defines a superficial loss to be a loss from the sale of a particular capital property while both of the following conditions are met:

  • You, or a person affiliated with you, buys, or has a right to buy, the same or identical property (called "substituted property") during the period starting 30 calendar days before the sale and ending 30 calendar days after the sale.

  • You, or a person affiliated with you, still owns, or has a right to buy, the substituted capital property 30 calendar days after the sale.

Who are affiliated persons?

  • you and your spouse or common-law partner

  • you and a corporation that is controlled by you or your spouse or common-law partner

  • a partnership and a majority-interest partner of the partnership

  • a trust and its majority interest beneficiary

But parents/grandparents, siblings, and children/grandchildren are not considered to be ‘affiliated’ with you for tax purposes.

In what situation, is the loss not considered a superficial loss?


  • You are considered to have sold the capital property because you became or ceased to be a resident of Canada

  • You are considered to have sold the property because you changed its use.

  • You disposed of the property and within 30 calendar days after the disposition you became or ceased to be exempt from income tax.

  • The property is considered to have been sold because the owner died.

  • The disposition results from the expiry of an option.

  • The property is appropriated by a shareholder on the winding up of a corporation.

  • Non-depreciable capital property is disposed of by a corporation, partnership, or trust. In this situation, although the loss is not added to the adjusted cost base of the transferred property, it is not claimed immediately but its recognition is deferred pending the occurrence of certain events. - Identical nature of properties (Gold Bullion and Gold Certificates; Bonds, Debentures, Notes, etc. ; Bonds, Debentures, Notes, etc. ) IT-387R2 (Consolidated)

How to treat superficial loss?


The amount of any capital loss that is deemed to be a superficial loss is added to the adjusted cost base (ACB) of the substituted property

 

An example to show Mr. A bought and sold the same stock within 30 calendar days.

  • On Oct. 1, 2021 Mr. A bought 1000 BCD shares at $10 per share

  • On Oct. 17, 2021, Mr. A sold 1000 BCD shares at $7 per share 

  • On Nov. 1 , 2021, Mr. A bought back 1000 BCD share at $6 per share

  • As of Nov. 17, 2021, Mr. A still holds 1000 BCD shares.

 

  • On Oct 17, 2021 Mr. A had $3,000 superficial loss (10,000-7,000). 

  • On Nov. 17, 2021 and after, the 1000 BCD shares have ACB of $ 9,000 (6,000+3,000)

 

Another example to show Mr. A sold the same stock to his wife Mrs. A within 30 calendar days.

  • On Oct. 1, 2021 Mr. A bought 1000 BCD shares at $10 per share

  • On Oct 17, 2021 Mr. A sold 1000 BCD shares to his wife Mrs. A. @$7 per share

  • On Nov. 1 , 2021, Mrs. A bought back 1000 BCD share @$6 per share

  • As of Nov. 17, 2021, Mrs still holds 1000 BCD shares.

 

  • $3,000 superficial loss will be added to Mrs. A 1000 BCD shares ACB $9,000 = 6000+3000

  • Mrs. A can sell BCD shares after 30 days and trigger the capital loss ( assuming BCD shares have not gone up). The capital loss will belong to Mrs. A  instead of Mr. A.

  • It would be beneficial if Mrs. A’s tax bracket is higher than Mr. A's. 

How to avoid superficial loss?

  • Avoid 30 days limit

  • Buy similar but different name of shares

  • A transfer of investments in a capital loss position “in-kind” to a son or daughter. You can claim the capital loss when you file your tax return.

  • if clients are looking to trigger capital losses and repurchase those investments within their RRSP, TFSA or RESP, they should sell the investments to cash, contribute the cash proceeds to the registered plan and wait until 30 days have passed from the time of the disposition before repurchasing the identical property, in order to sidestep the superficial loss rules.

Tax-loss selling is a value-added approach. Understanding the superficial loss rules and how to sidestep them can go a long way to helping you minimize your income tax bills.



References:






This article is written only for general information and broad guidance. Please contact our office
to discuss your specific circumstances. We are not responsible for any damage
resulting from your reliance on the information in this article. 

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