How to turn investment losses into gains

Do you have a stock that has dropped in value? Or sold one that produced spectacular gains, triggering an equally spectacular capital gains tax? If so, now is the time to consider tax-loss selling — a strategy that could significantly reduce your tax bill for 2017

Tax-loss selling is applicable only to non-registered accounts. In registered accounts, such as Registered Retirement Savings Plans (RRSPs), Registered Retirement Income Funds (RRIFs), and Tax-Free Savings Accounts (TFSAs), there are no tax implications to selling.

Outside of registered accounts, however, capital losses can be used to reduce taxable capital gains. Here’s how it works:

  • Current-year losses must first be used to reduce capital gains in the same year.
  • Excess losses can be applied against previous capital gains — up to three years from the current tax year — or held indefinitely to offset future capital gains.
  • To claim a loss for 2017, the trade must settle before the end of the year. Settlement typically takes three business days, so to play it safe, you may want to sell before Christmas.

Beware the superficial loss rule

Sometimes, you might want to claim a tax loss but still believe in the value of the underlying fund or investment. Can you sell the investment, claim the loss, and then buy back in?

The answer is no. Your loss will be denied if you have bought the same stock within 30 days before or after the sale on which you are claiming the tax loss.

Calculating the loss

Calculating the size of your capital loss may not be as straightforward as you think. Essentially, it’s the difference between your adjusted cost base (purchase price) and your selling price. The calculation gets more complicated when you have made multiple purchases at a range of prices or reinvested mutual fund distributions or stock dividends at the current market price. These purchases may not be at the same price as your original purchase, and therefore may increase or decrease your adjusted cost base.

The situation is complicated further if you hold income trusts or mutual funds that make return of capital (ROC) distributions. These payments are not taxable in the year of receipt. Instead, they reduce your adjusted cost base, resulting in a larger capital gain (or smaller capital loss) when you eventually sell or redeem the underlying investment.

Review your situation

While it’s important to recognize income tax implications, they should never be the driver of your investment decisions