Federal Budget 2024 raises capital gains inclusion rates, continues major deficit spending

The raft of ambitious new federal spending commitments in the lead up to Budget 2024 were designed to position the Trudeau government as being a step ahead of challenges such as affordability, the national housing shortage and Canada’s woeful economic productivity. Many of these announcements were also drafted to woo critical Generation Z and Millennial voters ahead of a 2025 (or earlier) federal election. Economists wondered where Finance Minister Chrystia Freeland would find the money to pay for these new or enhanced programs.

Now we know.

The federal government yesterday tabled a budget with sweeping tax changes that will have a profound impact on the personal and professional finances of many Canadian entrepreneurs and wealthier taxpayers. These are individuals who built wealth or saved through their corporations and will now be penalized for their effective planning. A significant number of corporations will also feel the sting of the Liberal government’s desire (or is it an imperative need?) to generate substantial new revenue to cover its spending commitments. At a time when Canada needs to attract capital and investment, these changes will make our economy decidedly less competitive.

In this case, Freeland plans to raise about $20 billion in new revenue over five years through various tax hikes—which will likely fail to generate the funds needed to meet the government’s new spending commitments, resulting in even greater budget deficits. Even raising taxes, according to the government’s own projections, will do little to improve the country’s fiscal standing.

Indeed, the much-discussed ‘fiscal anchor’ that Freeland said she would so steadfastly weigh is little more than a fiscal mirage. Budget 2024 introduces $53 billion in new spending over five years along with stunning deficits of $40 billion for the 2023-24 fiscal year, $39.8 billion for 2024-25, $38.9 billion for 2025-26, $30.8 billion for 2026-27, $26.8 billion for 2027-28 and $20 billion for 2028-29. That’s assuming all goes well economically. Each of these annual budget deficits exceeds the projections of the 2023 Fall Economic statement. How the Bank of Canada will manage to reduce interest rates amid such overcharged spending is anyone’s guess.

The government is excited that the debt-to-GDP ratio for 2024-25 will be 41.9 per cent and will then decline to 39 per cent over five years. Deficits are projected to remain below 1 per cent of GDP in 2026-27 and thereafter. Don’t bet on it. As debt servicing costs continue to skyrocket, a budget that endeavours to preserve affordability for younger generations is almost certainly condemning them to future tax increases and/or budget austerity to eventually lift us out of this this fiscal mire. Rather than introducing measures to boost growth, productivity and business investment, the budget does the opposite.

Capital gains inclusion rates to increase for corporations, wealthier Canadians

Nowhere is that more obvious than in the budget’s headline tax reforms—which are about as dramatic as those introduced in 2017, limiting some common corporate tax planning strategies. These changes are likely to generate similarly intense opposition from professionals and business owners.

Most notably, Budget 2024 proposes to increase the inclusion rate to two-thirds from one-half on capital gains realized annually above $250,000 for individuals and on all capital gains realized by corporations and trusts. The change would take effect on June 25, 2024. The inclusion rate for capital gains realized annually up to $250,000 for individuals will remain at one-half. The inclusion rate changes will not affect the exemption for capital gains from the sale of a principal residence.

What’s striking is that Budget 2024 lacks legislation with technical details outlining exactly how the capital gains inclusion rate changes will apply. It begs the question whether this change was an afterthought; a compromise revenue-boosting measure after other, more controversial proposals (e.g., a wealth tax) were considered and rejected at the last minute. We may never know. But the risk of this being another piece of poorly developed legislation in the vein of the Underused Housing Tax or new bare trust reporting rules remains a concern.

The Trudeau government was eager to downplay the impact of the capital gains inclusion rate changes, projecting that only a tiny fraction of the tax-paying population would feel the pain from this tax hike. The reality is that professionals and higher net-worth entrepreneurs and individuals will bear the brunt of the increase, with many of those individuals needing to revise their tax planning strategy over the next two months as they act to mitigate the impact of the increases. Legislation outlining the new capital gains rules are due in the coming months, but many questions linger in the meantime, complicating those planning exercises.

The budget does propose to increase the current $1,016,836 lifetime capital gains exemption on the sale of small business shares and farming and fishing property to $1.25 million, effective June 25^th, 2024. It also proposes a new Canadian Entrepreneurs’ Incentive to reduce the inclusion rate “… to 33.3 per cent on a lifetime maximum of $2 million in eligible capital gains,” giving entrepreneurs a combined exemption of $3.25 million when selling all or part of a business. The maximum will increase by $200,000 annually, beginning in 2025.

The catch: the Incentive won’t be fully implemented until 2034 and at this point also lacks legislation. So far, we know that the measure will be narrowly applied and comes with a host of limitations that make it far less attractive to the majority of entrepreneurs than first advertised.

To qualify, shares of a corporation would need to meet various conditions. At the time of sale, for example:

A share would need to be a share of the capital stock of a small business corporation and be owned directly by the claimant
The share would need to be held by the founding investor for a 24-month period in a Canadian-Controlled Private Corporation—for a total of five years holding the share—prior to its disposition
The claimant would need to have held more than 10 per cent of the fair market value of the issued and capital stock of the corporation and 10 per cent of the votes at the corporation’s annual shareholders meeting, while being actively and continuously engaged in the business
The corporation must not operate in sectors such as financial services, insurance, arts, recreation, food and accommodation, the entertainment sector, consulting or personal care services

Why the government chose to exclude businesses in these sectors is unclear. What is obvious is that the Canadian Entrepreneurs’ Incentive will do little to incentivize entrepreneurs to grow and reinvest in their businesses. The government’s spending priorities are sorely misaligned with those of the business community.

Other notable tax and spending measures proposed in the budget (with many, such as those designed to boost the supply and affordability of residential homes, being previously announced) include:

$336 million over two years to improve CRA call centre efficiency
A proposal to allow individuals to claim 80 per cent (rather than the previously proposed 50 per cent) of the Charitable Donation Tax Credit when calculating the Annual Minimum Tax. Other amendments to previous AMT proposals would:
Fully allow deductions for the Guaranteed Income Supplement, social assistance, and workers’ compensation payments
Allow individuals to fully claim the federal logging tax credit under the AMT
Fully exempt Employee Ownership Trusts from the AMT
Allow certain disallowed credits under the AMT to be eligible for the AMT carry-forward (i.e., the federal political contribution tax credit, investment tax credits, and labour-sponsored funds tax credit)
A proposal to introduce a new Canada Carbon Rebate for Small Businesses that would automatically return a refundable tax credit to eligible businesses to compensate them for a portion of expenses incurred under the national carbon tax regime
A proposal to amend the Income Tax Act to allow the CRA to issue a new notice of non-compliance when taxpayers fail to provide information requested by the Agency. Penalties for individuals that violate the non-compliance notice would be $50 for each day that the notice is outstanding, to a maximum of $25,000
The introduction of a new supplementary tax debt anti-avoidance rule that would apply when “there has been a transfer of property from a tax debtor to another person; as part of the same transaction or series of transactions, there has been a separate transfer of property from a person other than the tax debtor to a transferee that does not deal at arm’s length with the tax debtor; and one of the purposes of the transaction or series is to avoid joint and several, or solidary, liability”
A doubling of the credit amount of the Volunteer Firefighters Tax Credit and the Search and Rescue Volunteers Tax Credit to $6,000
An additional $15 billion in new loan funding for the Apartment Construction Loan Program
A proposal to reform the Apartment Construction Loan Program. These reforms include: an extension of loan terms; extending access to financing to include housing projects for students and seniors; enabling builders to more easily build multiple projects at once; providing flexibility on affordability, energy efficiency, and accessibility requirements; and fast-tracking the application process for qualifying home builders
A $400 million top up over four years to the Canada Housing and Mortgage Corporation’s Housing Accelerator Fund to help fast-track new home construction
$6 billion over 10 years for a new Canada Housing Infrastructure Fund
$409.6 million over four years for the Canada Mortgage and Housing Corporation to “… launch a new Canada Secondary Suite Loan Program, enabling homeowners to access up to $40,000 in low-interest loans to add secondary suites to their homes”
An accelerated capital cost allowance of 10 per cent for “… new eligible purpose-built rental projects that begin construction on or after Budget Day and before January 1, 2031, and are ready for occupancy before January 1, 2036”
A proposal to increase the Home Buyers’ Plan withdrawal limit from a registered retirement savings plan to $60,000 from $35,000. The measure is intended to help qualifying taxpayers purchase or build a first home. It would also temporarily defer the start of the 15-year repayment period by an additional three years for participants making a first withdrawal between January 1, 2022 and December 31, 2025
A relaxing of eligibility conditions for the removal of GST on new student residences for not-for-profit universities, public colleges, and school authorities
$100 million over two years to create more placements within the Apprenticeship Service to train new skilled trades and to provide additional funding for the Skilled Trades Awareness and Readiness Program
$50 million over two years for the Foreign Credential Recognition Program to help streamline foreign credential recognition in the construction sector
An amendment to the Canadian Mortgage Charter to allow 30-year mortgage amortizations for first-time home buyers purchasing newly constructed homes
$976 million over five years to launch a new Rapid Housing stream under the Affordable Housing Fund to build affordable housing
$477.2 million over five years and $147.8 million in future years for a new $1.5 billion Canada Rental Protection Fund
$903.5 million over six years to fund sustainable home and energy efficiency upgrades for Canadian households
An additional $1.3 billion over four years to fund a national homelessness strategy
$1.1 billion over three years for the Interim Housing Assistance Program to help house asylum claimants
$1.5 billion over five years to support the launch of the National Pharmacare Plan
$6.1 billion over six years and $1.4 billion per year ongoing for a new Canada Disability Benefit
$1 billion over five years to expand access to school food programs
A one-year extension to the increase “… in full-time Canada Student Grants from $3,000 to $4,200 per year, and interest-free Canada Student Loans from $210 to $300 per week.” The measure is expected to cost $1.1 billion in 2024-25
$500 million over five years for a new Youth Mental Health Fund
$8.1 billion over five years and $73 billion over 20 years in new defence spending
$2.4 billion for artificial intelligence computing infrastructure and technology development
A proposal to allow businesses to “… immediately write off the full cost of investments in patents, data network infrastructure equipment, computers, and other data processing equipment. Eligible investments, as specified in the relevant capital cost allowance classes, must be acquired and put in use on or after Budget Day and before January 1, 2027.” The cost of this measure is estimated at $725 million over five years
$600 million over four years to enhance the federal Scientific Research and Experimental Development (SR&ED) program
$1.8 billion over five years to support research grant funding and to support Canadian researchers
$2.9 billion over five years to migrate Old Age Security and Employment Insurance onto an updated digital platform
$825 million over five years and $199.8 million per year thereafter to increase the annual value of master’s and doctoral student scholarships
$3.1 billion over 11 years to fund ongoing nuclear science research, environmental protection, and site remediation work
$200 million over two years to help entrepreneurs access venture capital
An additional $158.5 million over two years for the Regional Economic Growth through Innovation program
$607.9 million over two years to top-up the Incentives for Zero-Emission Vehicles program
$743.5 million over five years for Immigration, Refugees and Citizenship Canada, the Canada Border Services Agency and the Immigration and Refugee Board to manage Canada’s asylum system
$6.7 billion over 20 years to fund Public Services and Procurement Canada asset management
Approximately $9 billion in new funding for indigenous communities over five years

To read Budget 2024 and its various spending measures in full, visit the Department of Finance website.

The unfortunate reality is the Budget 2024 is a story of opportunities missed: to improve economic productivity, to tame the deficit, to put the country on a stable fiscal footing and to more effectively address challenges such as the national housing crisis. What we’re left with is a grab bag of eye-watering spending promises that will do little to improve the country’s economic health. The budget may not even improve the Liberals’ flagging poll numbers.

What it will deliver is financial pain to the entrepreneurs that drive Canada’s economic growth, placing unnecessary strain on their balance sheets and discouraging desperately needed capital and labour investments. We can only hope that some of these proposed new tax measures will be reversed as opposition mounts, although the likelihood of a rollback is unlikely given the pressure this spendthrift government faces to replenish its coffers. It’s unfortunate that the burden of achieving that goal will be borne by some of Canada’s most successful taxpayers.

For more information on Budget 2024, contact a member of our team.

Armando Iannuzzi, Co-Managing Partner