After triggering a capital gain, the next step is to review financial and estate plans to determine how to deploy the sale proceeds.Overearth/iStockPhoto / Getty Images
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Investors who have triggered capital gains, or who plan to before the inclusion rate goes up on June 25, have another decision to make: how to invest the sale proceeds.
As most investors know by now, the recent federal budget proposed hiking the capital gains inclusion rate to 66.7 per cent from 50 per cent for individuals with gains of more than $250,000 annually. For corporations and trusts, the increase applies to every dollar of capital gains.
While the Liberal government has yet to table legislation to enact the change, Finance Minister Chrystia Freeland has said it will come before the House of Commons adjourns for its summer break on June 21.
Some Canadians have already triggered capital gains, and others plan to by June 25 to avoid higher taxes on assets such as cottages, rental properties and stock portfolios. Their next step is to review their financial and estate plans and determine how to deploy the sale proceeds. Here are five suggestions from advisors:
1. Set aside money for taxes
The first move an investor should make when triggering a capital gain – especially if it’s a big one – is to set aside money to pay taxes on the gain, says Leanne Scott, principal and portfolio manager at Vancouver-based Leith Wheeler Investment Counsel Ltd.
“You have to ensure you set aside enough funds so that you’re not scrambling when those taxes come due next year,” she says.
Ms. Scott recommends investing the money in short-term, risk-free assets such as guaranteed investment certificates or money market funds.
“You want to put the money to work again while also making sure it’s there for you when it’s time to pay the tax,” she says.
2. Pay off debt
Dan Hallett, vice-president of research and principal at Highview Financial Group in Windsor, Ont., says it’s a “no brainer” for anyone with debt on a credit card or line of credit to use money from the proceeds of the sale of property or securities to pay it off.
If possible, he also recommends making extra mortgage payments or setting aside funds to help with future payments, especially for people about to renew at a higher rate.
“It doesn’t mean that you have to try to wipe out your mortgage, but you’re still carrying a mortgage and you have these proceeds that should be a consideration for at least part of them,” he says.
3. Invest the money
Once the tax money is set aside and the debt is paid off, investors should consider investing proceeds from an asset sale in the financial markets, despite the higher inclusion rate on capital gains.
“It’s important to note that, generally speaking, and based on the proposed rules, capital gains will remain the most efficient form of taxable investment income one can earn as opposed to interest income and dividend income,” says Wilmot George, head of tax, retirement and estate planning at CI Global Asset Management in Toronto.
As for where to invest, Mr. George says investors should start with any unused contribution room in their tax-free savings account or, depending on current and future tax rates, a registered retirement savings plan.
Investors will also need to decide how to invest the money, says Maili Wong, senior portfolio manager and senior wealth advisor with The Wong Group at Wellington-Altus Private Wealth Inc. in Vancouver.
“If they need retirement cash flow to fund living expenses, consider a balanced dividend equity and fixed income portfolio for monthly income,” she says.
For those who plan to buy another property in a few years, Ms. Wong recommends a diversified portfolio of high-quality stocks and bonds for growth to keep up with rising prices.
“If they plan to reinvest the money into a property within a year, they should also keep the funds liquid and invested more conservatively,” she says.
Ms. Wong says business owners may consider shifting some assets into corporate-owned life insurance policies. These policies can offer tax sheltering for assets and provide the corporation with tax-free distributions.
“This was a terrific strategy before the new rules and is now even more compelling under the new rules,” Ms. Wong says
4. Give to children or charity
Many investors who receive a lump sum from an asset sale like to set aside some of the proceeds to give to their children, charity, or both.
Mr. George says many Canadians choose to donate money to charities not only to support a cause but also to receive a donation tax credit that can offset taxes paid on capital gains. However, he cautions that to be eligible for the donation tax credit, the gift must be to a qualified donee, which includes registered charities.
Ms. Scott says many parents give children money to buy their first home or to pay for their grandkids’ education.
“That’s something we’re seeing more: parents gifting money to their children or grandchildren because they want to see them benefit from it while they’re still alive,” she says.
5. Have a bit of fun
Someone who receives a lump sum from an asset sale should also set aside some of it for themselves.
“With any kind of windfall, it’s nice to carve out a little bit and just have some fun with it, whether it’s taking a trip or doing anything else you’ve always wanted to do but couldn’t until now,” Mr. Hallet says.
“It’s not all about investing and debt reduction. People are working hard, leading busy lives, and deserve a little fun – as long as they have the right balance. As we all know, life is short.”
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