What is a "Capital Gain"?

The most common reference to "Capital Gains" pertains to when you sell something for more than what  you paid for it. So for example, if you bought 1 share of Company XYZ at $50.00 and sold it one year later for $100.00 then you have a capital gain of $50.00 ($100 – $50).

MoneyClipCanadianDollars.jpgYour "Taxable Capital Gain" is a different story.  You have to multiply your capital gain by the "Capital Gains Inclusion Rate" (which is 50%). So now, with that same example you multiply $50 (Capital Gain) by 50% (Capital Gains Inclusion rate) and you are left with a Taxable Capital Gain of $25.

Oh, wait there is more! The taxable capital gain of $25 is subject to tax at your marginal rate (let’s assume 50%).  So the tax you owe upon selling your stock is $25 (taxable capital gain) x 50% Marginal Tax Rate = $12.50 in tax payable. So you get to keep $37.50 of your $50 profit.

So the "Capital Gains Inclusion Rate" is a good thing because it means not all your gain is subject to tax. Another thing to note, is that if your marginal tax rate is lower, you pay less tax on that transaction.  Many times when we are "ball-parking" the tax consequences of selling stock in a portfolio – we just look at the capital gain and multiply by 25% (or divide by 4) and we know what the worst case scenario is for the tax bill – it will always be lower than that… 

Capital gains are a desirable form of making a profit with your investments. You pay a lower rate of tax than on interest income (like from a GIC or a bond).  Interest income is fully taxable, meaning if you were paid $50 in interest – ALL of that is taxable (instead of HALF of it). See my post on "Interest Income – Think of it as Rent!"

 




Preet Banerjee
Preet Banerjee
...is an independent consultant to the financial services industry and a personal finance commentator. You can learn more about Preet at his personal website and you can click here to follow him on Twitter.
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