But before retackling the perennial topic of tax-loss selling, does anybody really have any accrued losses in their portfolios in 2019? After all, this past week saw record highs for the TSX and Dow Jones indices. The TSX composite five-year total return was up over 30 per cent and the Dow Jones industrial average had posted a five-year total return of nearly 80 per cent (in U.S. dollars, but more about that later).
The answer may depend on how long you’ve been investing and what you’re holding in your portfolio. Take the cannabis sector, for example. If you began investing in the sector just after recreational cannabis was legalized in Canada in the fall of 2018, you may indeed have significant accrued losses in your portfolio, with several cannabis stocks down over 50 per cent in the past twelve months.
With year-end approaching, now may be a good time to do some tax-loss selling as part of your annual portfolio rebalancing, such that the capital losses from your losers can be matched up with the capital gains from your winners. And, if you feel the losers may rebound, you can even buy them back, just not right away.
WHAT IS TAX-LOSS SELLING?
Tax-loss selling involves selling investments with accrued losses at year end to offset capital gains realized elsewhere in your portfolio. Any net capital losses that cannot be used currently may either be carried back three years or carried forward indefinitely to offset net capital gains in other years.
In order for your loss to be immediately available for 2019 (or one of the prior three years), the settlement must take place in 2019. The trade date must be no later than Dec. 27, 2019 to complete settlement by Dec. 31 , which takes into account the intervening weekend.
FOREIGN-EXCHANGE TRAP
One trick to watch out for is foreign exchange movements, which can turn what at first glance appears to be an accrued loss ripe for tax-loss selling into a taxable gain, once foreign exchange is taken into account. For example, let’s say that Tamar bought 1,000 shares of a U.S. company in November 2012 when the price was US$10/share and the U.S. dollar was at par with the Canadian dollar. Today, the price of the shares has fallen to US$9 and Tamar decides she wants to do some tax loss harvesting, to use the US$1,000 accrued capital loss against gains she is realizing from her year-end rebalancing exercise.
Using today’s exchange rate of $1 U.S. = $1.33 CDN, selling the U.S. shares for US$9,000 yields $11,970. So, what initially appeared to be an accrued capital loss of US$1,000 (US$10,000 — US$9,000) turns out to be a capital gain of $1,970 ($11,970 — $10,000) for Canadian tax purposes. If Tamar had tried to do some tax loss selling with her U.S. stock, she would actually be doing the opposite and increasing her 2019 tax bill.
SUPERFICIAL AND STOP-LOSS LOSS RULES
Now, let’s say you have high hopes (pun intended) for the cannabis sector going forward and plan to buy back the stock you just sold after crystallizing the loss. Be careful to wait at least 30 days, lest the superficial loss rules apply. These rules apply if property is repurchased within 30 days and is still held on the 30th day by you or an “affiliated person,” which includes your spouse (or common-law partner), a corporation controlled by you or your spouse or a trust of which you or your spouse are a majority-interest beneficiary (such as your RRSP, RRIF or TFSA). Under the rules, your capital loss will be denied and added to the adjusted cost base (ACB) or tax cost of the repurchased security. That means any benefit of the “crystallized” capital loss will only be available when the repurchased security is ultimately sold.
Another trick to keep in mind when crystallizing losses are the stop-loss rules. While it may be tempting to transfer an investment with an accrued loss to your RRSP or TFSA to realize the loss without actually disposing of the investment, such a loss is specifically denied under our tax rules. In this case, it’s best to sell the investment with the accrued loss and, if you have the contribution room, contribute the cash from the sale into your RRSP or TFSA. After waiting the 30 days, your RRSP or TFSA can then repurchase the investment, thus avoiding the superficial loss rule.
TAX-GAIN DONATING
Finally, if you don’t have much in the way of accrued losses in your portfolio, consider what I call “tax-gain donating” to fund your charitable giving this holiday season. “In-kind” donations of publicly traded shares, mutual funds or segregated funds to a registered charity or foundation not only provide you with a tax receipt equal to the fair market value of the securities or funds being donated, but also allow you to avoid paying capital gains tax on the associated accrued gains.
If you still want to hang on to that winning stock and make an in-kind charitable gift, you can use the cash you were going to donate to the charity to immediately repurchase the stock you just donated. Since there’s no 30-day superficial gain rule, this will bump up the ACB of the stock to fair market value, reducing your tax bill later on when you decide to permanently dispose of the shares.