Is This the Right Time to Transfer Assets?

Evelyn Jacks

When is the last time you reviewed the personal and family net worth statements of a household unit for whom you provide tax or financial services to?  If it hasn’t been addressed since the end of March, 2020, it’s time to do so now.  Dr. Dean Smith will drill down on losses at the May 13 Virtual CE Summit (be sure to register by May 11). Here is a primer to whet your appetite.

Join Dr. Dean Smith, and 7 other thought leaders online for the Virtual CE Summit on May 13.

Here’s the issue:  With significant fluctuations in asset valuations it may be time to capitalize on transferring assets to spouse or children, particularly if there are loss utilization opportunities.

Excerpted from EverGreen Explanatory Notes, an online reference published by Knowledge Bureau. Permission to reprint required.

Although the Income Tax Act does not specifically address the issue, it is possible for spouses to arrange to transfer accrued but unrealized capital losses between them. This strategy is advantageous where one spouse is about to realize a capital loss but has no capital gains, either currently or in the three-year carry back period, to offset the loss against.  But the other has such gains.

This strategy is based on the following framework:

• Spouses are affiliated persons, under S. 251.1. Accordingly, the stop loss rules will apply when a loss is realized on the transfer of property from one spouse to another.
• Where the transferor and transferee are affiliated individuals, as is the case for spouses, any loss arising on the transfer of property between them is a superficial loss.That term is defined in S. 54. A superficial loss includes a loss that is realized in circumstances where an affiliated person acquires identical property within a period that starts 30 days before the transfer and ends 30 days after the transfer. A superficial loss is deemed to be nil, by virtue of S. 40(2)(g).
• The attribution rules generally cause property to transfer between spouses at tax cost, so that no gain or loss arises. 
• It is, however, possible to elect under S. 73(1) to have the transfer between spouses accounted for at fair market value (FMV). If this election is made, the loss arising on the transfer will be realized.
• But there is a problem:the loss remains a superficial loss.
• Furthermore, any income and loss (under S. 74.1(1)), and capital gain and capital loss (under S. 74.2(1)) realized on transferred property attributes back to the transferor spouse.

Taken together, these provisions give rise to the following strategy for transferring capital losses between spouses.

Example: Transferring Capital Losses Between Spouses

Issue: Judy holds marketable securities with an unrealized loss of $25,000. She acquired them a couple of years ago for $60,000. She has no capital gains accrued on other property, nor did she realize capital gains in the current or prior three years to use the loss against. Her husband, Steve, though, has the potential to report $100,000 in unrealized capital gains this year.

Judy transfers the securities to her husband in return for a promissory note in the amount of $35,000, the fair market value of the funds today. Normally, this transfer would be deemed to occur at $60,000, the adjusted cost base of the securities. However, Judy files an election under S.73(1) with her income tax return, in which she elects not to have that subsection apply. Accordingly, she accounts for the disposition at fair market value, and realizes a capital loss of $25,000.

What are the tax consequences of this situation and what actions must be taken by the couple in order to optimize their tax status?

Answer: The loss that Judy realizes is a superficial loss. Therefore, although Judy reports the disposition on her tax return, she adjusts the loss to nil, noting that it is a superficial loss.

The cost of the shares to Judy's husband is the $35,000 he paid. The adjusted cost base of the shares, however, is $60,000, as a superficial loss is added to the cost base of the property under S. 51(1)(f).

As Judy and her husband do not wish to have the attribution rules apply, the promissory note that Judy takes back is interest bearing. Judy and her husband are careful to calculate interest on the note as long as it is outstanding, and her husband pays her the interest before January 30 of the year following the year of the transfer.

Her husband holds the shares for at least 30 days. He must do this, in order that the loss he will realize on their disposition not be treated as a superficial loss to him.

He then sells both the shares he acquired from Judy and his property then gives rise to the capital gain. He can deduct the allowable loss on Judy's shares, $12,500, against the taxable gain on his own shares, $50,000, in computing his net income.

Bottom line: preparing net worth statement for a couple at this time can give rise to valuable planning opportunities in transferring assets.  

Additional educational resources: RSVP BY MAY 11. Enrol now for the Virtual CE Summit to get all the technical details of the COVID-19 Canada Emergency Response provisions, and their related tax audit requirements. By enrolling in the Virtual CE Summit now, you will also have access to the online Emergency Pandemic Response Benefits Course. This is Canada’s first online certificate training course for professionals in the Tax, Bookkeeping and Financial Services.

 It’s a sought-after educational solution you need now from Knowledge Bureau in a new format: a professional online course plus interactive live virtual meeting.

Remember:  The online learning release is available now on the Virtual Campus, and the interactive Zoom event will take place on May 13. Deadline for enrolment is May 11.

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