# What NOT to do if you want to keep investment gains as capital gains?



## cannon_fodder (Apr 3, 2009)

There are certain things you can do which will cause CRA to treat your investment gains in non-registered accounts as income rather than the favourable capital gains treatment. In some cases, you might want that. But, assuming you would rather have losses and gains treated as capital losses and gains, what should you watch out for?

I know that if you short equities then gains and losses are treated as regular income.

I've also read that if you trade frequently enough, especially if you are holding equities for short periods of time, especially if you are using margin, that CRA doesn't consider those gains as capital gains.

What about if you use options? Trade futures?

What about if you make more money from buying/selling equities/options/futures than you earn? What happens when you retire?

I certainly don't like being in a situation where the government has leeway to interpret things rather than having hard and fast and simple and transparent rules.


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## MoneyGal (Apr 24, 2009)

Taxtips.ca has a short page which lists the factors CRA will use in determining whether gains/losses will be treated as capital in nature or as income, here:

http://www.taxtips.ca/personaltax/investing/taxtreatment/capitalorincome.htm

This is kind of beyond the scope of this message board but if you have a series of proposed transactions for which you want certainty about the tax treatment, you could seek an advance ruling from CRA: 

http://www.cra-arc.gc.ca/E/pub/tp/ic70-6r5/ic70-6r5-e.html

That taxtips.ca link provides the factors to monitor, however. Here they are:

"The combination of a number of the following factors may cause the gains or losses to be treated as income (100% taxable), not capital (50% taxable):

frequent transactions, extensive buying and selling of securities

short periods of ownership

some knowledge of or experience in the securities markets

security transactions form a part of the taxpayer's ordinary business

a substantial portion of the taxpayer's time is spent studying markets and investigating potential securities purchases

security purchases are financed primarily with margin or debt

the taxpayer has advertised or otherwise made it known that he is willing to purchase securities

securities purchased are speculative in nature or do not pay dividends"


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## Lephturn (Aug 31, 2009)

TaxTips has a link about options too: http://www.taxtips.ca/personaltax/investing/taxtreatment/options.htm

The short answer is they are capital gains. Use of options in non-registered accounts do take some extra record keeping.


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## MoneyGal (Apr 24, 2009)

They are treated as gains if you are NOT deemed to fall into the "day trader" category by CRA. If you are deemed to be in the business of trading stocks on your own account, the gains are treated as income, not capital gains.


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## avrex (Nov 14, 2010)

cannon_fodder said:


> I certainly don't like being in a situation where the government has leeway to interpret things rather than having hard and fast and simple and transparent rules.


Agreed. There doesn't seem to be any hard rules. It's a mystery.

Here's a question for our forum members.

Has the CRA ever challenged your declaration of capital gains/losses?
Have they forced you to instead declare this as income?

If anyone answers yes to this question, then their type of activity might give us a clue as to the types of patterns that CRA is looking for.


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## el oro (Jun 16, 2009)

For futures, the businesses/people hedging production get taxed as income and speculators as capital gains. If you have insider info, though, you get taxed as income. Anyone here trade futures?


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## cannon_fodder (Apr 3, 2009)

MoneyGal said:


> Taxtips.ca has a short page which lists the factors CRA will use in determining whether gains/losses will be treated as capital in nature or as income, here:
> 
> http://www.taxtips.ca/personaltax/investing/taxtreatment/capitalorincome.htm
> 
> ...


Thank you. I had read that excerpt from the ITR. Don't you love the vague, unquantified terms like "substantial", "extensive", "short periods"? And what about knowledge of the securities market? Wouldn't pretty much anyone who is buying and selling fall into this?

Like avrex asked, are there personal experiences we can review to get a tighter guideline of where the grey area is?

I didn't know about the option to seek a ruling. I'm almost worried about tipping my hand.


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## cannon_fodder (Apr 3, 2009)

$1600 Gold by 2011 said:


> For futures, the businesses/people hedging production get taxed as income and speculators as capital gains. If you have insider info, though, you get taxed as income. Anyone here trade futures?


I buy and sell a commodity linked ETF but I'm thinking of going to futures. However, I'll stay away from that if the CRA is going to rob me of 46% of my profits.


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## Charlie (May 20, 2011)

If you are an individual (rather then operating as a corporation) you could benefit by filing form T123 and making an election to treat your dispositions as capital rather then income. This applies only to Cdn securities. 

Here's the form: http://www.cra-arc.gc.ca/E/pbg/tf/t123/t123-07e.pdf

And here's the narrative: http://www.cra-arc.gc.ca/E/pub/tp/it479r/it479r-e.txt

Couple of points:

It's non revocable -- so if, heaven forbid, you find yourself with lots of losses in future yrs, you cannot reinterpret your trades as business and take the loss as ordinary income.

Only applies to Cdn securities. Securities include bonds, shares, mutual funds and shares sold short. Doubt it includes options, futures, and ETF's. 

The definition of 'trader' is very broad for corporations (hence the election is pretty useless) but quite narrow for individuals (see paragraph 5 of the second link -- basically those involved in the promotion or underwriting or who hold themselves out to the public as a dealer etc).


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## MoneyGal (Apr 24, 2009)

CRA can still treat your gains as income even if T123 is filed if they deem you to fall into the "trader" category, which doesn't require you to hold yourself out as providing advice or services to any other party. 

Coming back to say that I have heard this anecdotally, but I've never heard of an actual case or seen a CRA reference...so I should not just blindly repeat it. I'm going to look for any evidence that CRA has actually overturned a T123 declaration.


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## Charlie (May 20, 2011)

I thought so too, MG. 

But here's paragraph 5 of the IT bulletin. (of course, CRA does retain the option of ignoring their IT's).



> 5. For the purposes of subsection 39(5) the Department interprets the term "trader or dealer in securities" to mean a taxpayer who *participates in the promotion or underwriting* of a particular issue of shares, bonds or other securities or a taxpayer who *holds himself out to the public* as a dealer in shares, bonds or other securities.
> 
> and the insider info hook -- but only for those securities...
> 
> ...


.

so it seems much more definitive then I expected. I was also surprised to see short sales included. No guarantee, of course, but possibly something Cannon should consider. (with the usual caveats re: anonymous advice one reads on the internets...).

And anecdotally, I should add, that of 'frequent traders' who I'd think were at risk of being challenged, I've seen more losers then winners over the long term. But possibly I just hang with the wrong crowd.

PS -- I'm liking this forum. Good relevant, and informative info, and respectful discussions. Thanks all.


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## cannon_fodder (Apr 3, 2009)

Charlie said:


> And anecdotally, I should add, that of 'frequent traders' who I'd think were at risk of being challenged, I've seen more losers then winners over the long term. But possibly I just hang with the wrong crowd.
> 
> PS -- I'm liking this forum. Good relevant, and informative info, and respectful discussions. Thanks all.


What do you mean by "I've seen more losers than winners over the long term."? Do you mean they had their declaration overturned or they just weren't successful at making money?


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## Charlie (May 20, 2011)

Trading losses. The tide can turn quickly.


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## Mockingbird (Apr 29, 2009)

The information MoneyGal provided is correct. 
But in honesty, you will not know till you get audited and it could be one expensive lesson. Talk to your own accountant.



avrex said:


> Has the CRA ever challenged your declaration of capital gains/losses?


Happened years ago. Never had an issue till got audited. 
Without getting into much details, basically I was spending more time and making more money than my regular job. Having margin accounts, shorting, holding period, and frequency of trades all came into the equation as well. I was pegged as a daytrader.




$1600 Gold by 2011 said:


> For futures, the businesses/people hedging production get taxed as income and speculators as capital gains. If you have insider info, though, you get taxed as income. Anyone here trade futures?


You are correct about the futures. I trade them also, but mine are treated as income.

MB


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## Mockingbird (Apr 29, 2009)

Charlie said:


> Trading losses. The tide can turn quickly.


Agree. Trading's been always about risk management.

MB


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## MoneyGal (Apr 24, 2009)

It's not that "CRA ignores their ITs." The reality is that even a single transaction can be found to result in business income, depending on your conduct and intention during the transaction. T123 is no real protection, and CRA has the final say.


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## cannon_fodder (Apr 3, 2009)

Mockingbird said:


> Without getting into much details, basically I was spending more time and making more money than my regular job. Having margin accounts, shorting, holding period, and frequency of trades all came into the equation as well. I was pegged as a daytrader.
> MB


"making more money than my regular job" - Check
"having margin accounts" - Check (although is it having a margin account or buying on margin that is more important?)
"shorting" - Check (but not any more)
"holding period" - usually weeks to months - how about you?
"frequency of trades" - sometimes nothing for months, sometimes a few in a week.

Would I correct in assuming that, in light of your using futures, you've continued to accept the loss of almost half of your gains to the government?

Do you have any opinion as to what was the biggest factor to getting audited? E.g. just a matter of time, size of your gains, etc.

The more I hear these experiences, the more I want to live in a country where you can make, and more importantly keep, the vast majority of your money.


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## Four Pillars (Apr 5, 2009)

cannon_fodder said:


> Would I correct in assuming that, in light of your using futures, you've continued to accept the loss of almost half of your gains to the government?


Correct me if I'm wrong, but you are talking about the difference between your investment gains being taxed as income or capital gains right? You aren't losing almost half of your gains if it's classified as income. You are losing 23% which is slightly less than a quarter.

I hear what you are saying however, I don't really understand the line between a successful investor and someone who should pay income tax. I mean everyone who invests does so with the intention of making money. It seems like passive investors pay lower rates than active investors - but what is the difference exactly?

Maybe the US system is better - they have a high capital gain rate for short term trades (I think less than one year) and a lower rate for longer term trades. At least that way, the rules are pretty clear.


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## cannon_fodder (Apr 3, 2009)

If it's classified as capital gains then it's only 23%. If income then it's 46%. 

Imagine the following three scenarios all because you made some investments and gained $1M in one year (nice big round number):

1. A guru told you he had a strategy that would turn $1M profit on your capital and if you followed his advice and were successful you had to pay him 23% of everything you earned. If you broke even you owed him nothing. You would probably think good deal for both of us. 
2. You turn a profit of $1M on your capital all on your own strategy. BUT there is a law that you must give 23% of everything you make to a random stranger. You don't know what they are going to do with the money but you know they arent going to return any favors to you. Great deal for the stranger but you've lost almost a quarter. This is you and the govt with capital gains. 
3. Same as 2 but now it's 46%. Now this random stranger takes almost half and you get no extra courtesies or benefits. Not even a thank you. Some of the money could be wasted while some may go to hospitals or schools or roads or security. You don't know. But you do know that writing a cheque for $460,000 is not what you envision as having a lucky problem. This is you and the govt and income treatment. 

I've paid more than the median or average income taxes for a long, long time and rarely griped about it. I never really thought about just how much those really high earners (and to me that's anything above $500k) pay in taxes. And when you factor in the HST it's hard to imagine that, as great as our country is, it's worth THAT much to live here if you have the choice. 

This is why I want to make sure I do what I can while I live here to stay onside with the capital gain treatment rather than income.


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## FrugalTrader (Oct 13, 2008)

Cannon, one thing to keep in mind is that if you are considered to be in the "business" of trading, then you can claim eligible business expenses. Home office space (mortgage interest, utilities, internet etc), software expenses, trading tools etc. It may not make a huge difference, but it will save a few dollars.


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## Mockingbird (Apr 29, 2009)

cannon_fodder said:


> "having margin accounts" - Check (although is it having a margin account or buying on margin that is more important?)


I was maximizing the margin on a daily basis.



> "holding period" - usually weeks to months - how about you?


Mostly "day" trading. Closing positions by the end of day.



> Would I correct in assuming that, in light of your using futures, you've continued to accept the loss of almost half of your gains to the government?


Trading is a part of my business. As FrugalTrader stated, there are many things I write off as well.
The only thing I accept is that I will gladly pay my fair share of taxes on the net profit.
The business was set up after discussing it with my accountant. I had my share of circumstances. YMMV.



> Do you have any opinion as to what was the biggest factor to getting audited? E.g. just a matter of time, size of your gains, etc.


I'm not sure about the exact trigger. I thought I was filing the taxes properly (always did my own) till I went to see an accountant about my audit.
He was more agreeable with the CRA. Not a good sign.

MB


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## cannon_fodder (Apr 3, 2009)

Mockingbird said:


> The business was set up after discussing it with my accountant. I had my share of circumstances.
> 
> I thought I was filing the taxes properly (always did my own) till I went to see an accountant about my audit.
> 
> MB


it sounds like you worked with an accountant to set up the business but not to file taxes. Did the accountant not give you appropriate advice in setting up the business or was it simply the DIYtax filing which was your undoing?


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## Mockingbird (Apr 29, 2009)

cannon_fodder said:


> it sounds like you worked with an accountant to set up the business but not to file taxes. Did the accountant not give you appropriate advice in setting up the business or was it simply the DIYtax filing which was your undoing?


Never used an accountant to file my taxes. I sought an advice after the notice. The business part came thereafter.

You are right - DIY tax without any expert advice provided me some grief. 


MB


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## cannon_fodder (Apr 3, 2009)

Mockingbird said:


> Never used an accountant to file my taxes. I sought an advice after the notice. The business part came thereafter.
> 
> You are right - DIY tax without any expert advice provided me some grief.
> 
> ...


From reading on financial webring I'm not seeing support for the position put forth by the one accountant I met. He suggested incorporating as a surefire way to take advantage of SBD reduced tax rates. 

There were some mentions on webring for holding companies and trusts but I haven't been able to research those options yet. 

At this point it looks like the most I can hope for is to guess at a strategy that stays onside of the CRAs somewhat vague rules. The cost of being offside between the worst case and best case is massive. 

I'm actively seeking well qualified accountants in the Toronto area to get other opinions. 

Thanks for your candour.


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## Charlie (May 20, 2011)

Incorporating and paying at the SBD rate would defer, but not save tax. I think it would cost you more unless you are clearly a trader -- which I'm not convinced you are.

The SBD rate is only applicable to business income -- so you would abandon the capital gains idea. In that sense it's 'safer.' You'd pay tax at 15-20%. But when you withdraw the money -- the balance kicks in through a tax on dividends. So your flow through rate would be as high as 46%. There's no savings through corporations -- only deferral. Likewise for Holding companies and trusts. Unless you're the bronfmann's and can wrangle a special deal of some sort. 

I'm guessing the accountant knew much more about your situation then I do. So his advice may be very valid. Just pointing out that taxwise, your preference would be:

1) cap gains personally
2) income through corp (assuming you won't be taking out your gains -- and the hassle and cost is worth it)
3) income personally.

You're simply not going to get an absolute guarantee of cap gain treatment. So there's always risk. You assess the risk, organize your affairs accordingly and roll the dice if you're comfortable with your position. Clarifying your specific situation with a tax accountant would be worthwhile. Good luck.

If it makes you feel any better, you wouldn't be getting cap gain treatment in the US except on those securities you held more then a year...


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## MoneyGal (Apr 24, 2009)

Great post from Charlie.


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## avrex (Nov 14, 2010)

Would it be safe to say that most of us do-it-yourself investors on this forum will not have to worry about the CRA forcing us to change the capital gains/losses to be income instead?

Example 1.
I work a 9 to 5 job. Sometimes, I get a Friday off and make a few trades. Recently, I've also traded some options which come due in 3 months. These would fit the definition of being short-term and speculative. I will be declaring all of these transactions on my taxes as capital gains/lossess. Do I need to worry about the CRA making me declare these as income instead of capital gains/losses?

Example 2. 
KaeJS has also been a frequent trader, and has generously shared his picks with us here. Many of his picks are short-term. KaeJS Stock Trades Spreadsheet
Does KaeJS need to worry about the CRA making him declare these as income instead of capital gains/losses?


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## cannon_fodder (Apr 3, 2009)

Does anyone have experience with form T123 http://www.google.ca/m/url?client=s...cQFjAA&usg=AFQjCNHTWjLxxFAnUJb99SSduDD5wkLtUw
And whether this "tips your hand" while calling unwanted attention or in fact provides some security to your desire to have all buy/sell profits treated as capital gains?


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## Charlie (May 20, 2011)

It's a legitimate election and can only help. Note it offers no protection on trading from US securities.

CRA already gets records of your stock dispositions directly from the brokerage houses. So if they're looking for tips on potential 'traders' they have a much better data source then a spattering of elections.


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## cannon_fodder (Apr 3, 2009)

Every time I see a post about using form T123 there is a severe warning about the permanency of the declaration. Unless you foresee earning other income and a number of years of losses as a real possibility, what is the downside?

I am considering retiring next year so the only income I'll earn would be from dividends and capital gains. And these would be based on CDN listed equities. RRSP withdrawals or annuities is further down the line.


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## namelessone (Sep 28, 2012)

Mockingbird said:


> Happened years ago. Never had an issue till got audited.
> Without getting into much details, basically I was spending more time and making more money than my regular job. Having margin accounts, shorting, holding period, and frequency of trades all came into the equation as well. I was pegged as a daytrader.


Hi Mockingbird,
This is an old thread but I have the concern about auditing. 
were there any penalty fees or interest charge from the reassessment other than tax owed? 

I don't short stocks and I don't day trade but I use some margin constantly for value stocks(1 month to several months holding period) and sell a dozen covered call each month. 

Right now I can easily make 20% to 30% of my job income from value trades alone. It'll take 7 more years for me to have the value trade profit surpass regular job income. I am not sure at what stage I should report some as income. It's not fair to report everything as income as an individual because half of my positions are long term buy and hold within the same account.I do trim them occasionally. 
Thanks.


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