Tax loss selling and how it works
If you have a regular (non-RRSP and non-RRIF) mutual fund account, here is a tax tip that could save you money or even recover significant amounts of tax from a prior year tax return.
In some instances, it may be prudent to generate a capital loss to offset taxable capital gains for the current tax year or even to recover tax by going back three tax years and obtaining a tax refund.
Although this will likely be a down year for most mutual funds and fund distributions may be fewer overall, some mutual funds may still pay out a capital gain and you will receive a T3 slip. If however, you did some tax planning and triggered sufficient capital losses before December 31, you can offset the capital gain tax bill, perhaps to zero!
If you do not have any capital gains this year or in the last three, the capital loss can be carried forward indefinitely and applied to any future capital gain – minimizing any future capital gains taxes.
How do I trigger a capital loss for tax purposes?
For tax planning purposes, the idea of “crystallizing” a loss often entails a sale of the investment and a purchase of something else.
You can do this a number of ways, however, we have to be mindful of short-term trading penalties and CRA tax rules about buying back the same investment within 30 days of selling it.
One of the best ways to keep your investment strategy intact and generate tax savings at the same time is to switch your mutual fund into a corporate class mutual fund. The corporate structure for tax purposes means that you are switching into a different fund and therefore, you can claim a capital loss merely by switching. The 30 day rule does not apply to switching to a corporate class mutual fund.
If corporate class funds are not available for your particular fund, you may also consider switching to a similar mutual fund in the same mutual fund family. The 30 day rule does not apply in this case either.
With careful planning, triggering a capital loss can be accomplished without incurring any additional costs and can recover significant amounts of taxes.