The announced plans in the budget will have many Canadians paying double what their American counterparts pay in cap gains
The recently announced changes by the federal government to the capital gains tax rules are terrible news for Small and Medium Enterprises (SMEs) in Canada who are ultimately looking to sell their businesses.
In accordance with the 2024 federal budget unveiled last week, the taxable portion of capital gains increases from 50% to 67% for capital gains in excess of $250,000, and tax is subject to personal income tax levels, which we all know are some of the highest in the world. Most small businesses that I work with certainly expect to sell their businesses for much more than that. By comparison, the long-term capital gains tax rate in the US for assets held for more than a year is 15-20%.
Assuming you hit the top income tax bracket, Canadians will effectively pay 33.5% on capital gain upon selling an asset, which may potentially be more than double what a US citizen would pay. The capital gains tax impacts a number of parties:
- Business owners selling their businesses
- Individuals or corporations that make investments in stocks
- Real estate investors
- Individual employees that opt for stock options when they take a position in a startup firm
When you consider the recent triple whammy from the federal government, this puts considerable strain on SMEs that are still struggling to survive in the post-COVID world:
- $40K CEBA repayments in January
- Shut down of CDAP - grants for digital adoption
- Increase in capital gains tax rate
The ripple effect from this announcement can be massive. Investors who put their capital into private businesses looking for a return will be deterred from continuing to support SMEs in Canada. For those business owners that were thinking about moving their business to another jurisdiction, this announcement is yet another push in that direction. If they decide to pack up and move their headquarters elsewhere, we will see job losses and a loss in economic activity. Canada already provides a challenging environment for a startup company with insufficient sources of capital at an early stage. This will be yet another deterrent for that entrepreneur looking to take a substantial personal risk to start a business.
For those who believe this is simply taxing the rich to redistribute wealth to those more in need, I believe that opinion is oversimplified. I would support that argument if the federal government implemented an inheritance tax or a wealth tax, which taxes the net worth of wealthy individuals, a concept that has been floated around by politicians like Elizabeth Warren in the US. However, the effective capital gains tax rate was intentionally set up to be lower due to the recognition that activities that generate capital gains involve capital expenditures where individuals or businesses take on risk that may at some point in the future yield a large return. These individuals are not necessarily wealthy today and theoretically should be rewarded for taking that risk. Individuals taking risks lead to greater innovation, better products and services for consumers, more jobs for Canadians, and higher overall productivity in the country.
This is a sad day for Canadian SMEs.
About Daryl Ching
Daryl Ching is the founder and owner of Vistance Capital Advisory, providing accounting, capital raising and fractional CFO services to SMEs. He has over 10 years of investment banking experience, starting his career at RBC Capital Markets where he structured multi-billion dollar transactions moving to smaller investment banks where he completed smaller debt and equity transactions in various asset classes. After leaving investment banking, Daryl started to work with small businesses as a CFO preparing financial statements, strategic planning, budgeting and forecasting, and raising capital through investors and banks. Mr. Ching has been well recognized as an expert in structured finance, making numerous appearances on the Business News Network and has been quoted in major newspapers and magazines across Canada. Mr. Ching completed the Honors Economics Program at the University of Western Ontario and is a CFA Chartholder.
