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Individual Tax Series: Lifetime Capital Gains Exemption (LCGE), Part 2: Qualified Farm or Fishing Property, Purification Strategies, Calculating LCGE, and Other Important Information
- Rylan Kaliel
- Jun 23
- 15 min read
Updated: Jun 29
As was discussed in part 1, the Lifetime Capital Gains Exemption (LCGE) is one of Canada's most valuable tax planning tools, especially for small business owners and individuals owning qualified properties. It allows eligible individuals to significantly reduce or even eliminate taxes on capital gains from the disposition of certain qualified assets. Understanding eligibility requirements, how to calculate and apply the LCGE, and strategic considerations are crucial for optimizing your tax savings.
It is important to note, the LCGE can be an extremely complex and are very often reviewed in detail by the CRA. As such, this blog post will provide a general guide of the rules surrounding the LCGE. It is highly recommended that if you intend to claim this deduction you involve tax professionals to assist.
As this is a significantly longer post, with a ton of information to understand, this post is broken up into two parts. The first, which we have already posted, will be related to what is the LCGE, relevant definitions, and what is a qualified small business corporation. Part 2 is on what is qualified farm or fishing property, purification strategies, how to calculate this deduction, and other important information.
Qualified Farm or Fishing Property (QFFP)
Qualified farm or fishing property (QFFP) generally refers to the following:
Real or immovable property (i.e., land) or a fishing vessel that is used in the course of carrying on a farming or fishing business in Canada;
A share of the capital stock of a family farm or fishing corporation (discussed in Share of the Capital Stock of a Family Farm or Fishing Corporation);
An interest in a family farm or fishing partnership (discussed in Interest in a Family Farm or Fishing Partnership); or
A property included in Class 14.1 used in the course of carrying on a farming or fishing business in Canada.
Essentially, these definitions allow for the sale of farming or fishing properties to be deductible under the LCGE rules. One of the main requirements is that they be used in the course of carrying on a farming or fishing business in Canada, which would be similar to an active business carried on in Canada (see part 1 of our blog post under Active Business Carried on in Canada), however, they must be a farming or fishing business. What constitutes a farming or fishing business is outside of the scope of this blog and as such, it is advised you discuss this with a tax professional.
Some of the other terms noted above, other than those noted with references above, can be described as follows:
Real or immovable property: This typically refers to land and potentially buildings. The key point is that the property be a real property (i.e., not a software, etc.) and that they be immovable (i.e., not vehicles, equipment, etc.).
Fishing vessel: This would typically refer to a vessel, such as a boat, used for fishing.
Property included in Class 14.1: Class 14.1 is a class of assets for depreciable property (see our Travel Expenses blog or visit our CCA tag for details on classes) and generally includes intangible assets that cannot be included in another class. Common assets would include quotes and goodwill (see part 1 of our blog post under Active Business Carried on in Canada above).
Where these properties are sold by a person they would generally qualify as QFFP and would be eligible to claim the LCGE. As has been noted throughout, these classifications can be complicated and as such, it is recommended that you discuss this with a tax professional.
QFFP relies on very similar rules to QSBC, as was discussed in part 1 of this blog post under Qualified Small Business Corporation (QSBC) Shares, especially as they relate to shares of a corporation or ownership in a partnership, which will be discussed more below.
For all properties, the Holding Period Requirement (discussed in part 1) must be met. A few additional requirements are as follows:
A gross revenue over income requirement, effectively the revenue of the QFFP must exceed the income of the person from all other sources of income other than that of the property;
The property was used principally in a farming or fishing business carried on in Canada; and
In certain cases, the person must be actively engaged on a regular and continuous basis with the property.
With respect to the revenue requirement above, generally this requirement is that one must be primarily engaged in the use of this property to earn income, that is the revenue from the property outweighs their other sources of income.
With respect to the term “actively engaged on a regular and continuous basis”, the CRA generally defines this as follows:
Actively engaged: Question of fact, but they would expect that the person would contribute time, labour, and attention to the business such that their contributions would be a determinant in the success of the business.
Regular and continuous basis: Question of fact, but an activity that is infrequent or activities that are frequent but undertaken at irregular intervals would not normally meet this requirement. In short, they would expect some continuous actions being taken, such as a few hours a week.
Taken together, this expression would generally mean that a person would have to put time and effort into the property to ensure the business is successful in a regular fashion over time.
As has been noted throughout, these requirements can be tricky and as such it is recommended that you have a tax professional review your situation to ensure you are onside and provide guidance throughout the process.
Share of the Capital Stock of a Family Farm or Fishing Corporation
Shares of the capital stock of a family farm or fishing corporation have very similar requirements to Qualified Small Business Corporation (QSBC) Shares, as was discussed in part 1 of this blog post. The key difference is that instead of this being an active business carried on in Canada they require that the property be used in the course of carrying on a farming or fishing business in Canada. Additionally, they require that the corporation, person, or other similar entities be actively engaged on a regular and continuous basis in the corporation. Both of which are discussed above in Qualified Farm of Fishing Property (QFFP).
As was discussed in part 1 of our blog post under Active Business Carried on in Canada, there is still the 50/90 requirement where this corporation holds shares of another corporation or a partnership (slight difference from the QSBC rules). This means that both the parent and the subsidiary, or partnership, must have at least 50% of their property used in the course of carrying on a farming or fishing business in Canada and either one or the other must have at least 90% of their assets used for these activities. At the time of sale, the parent must meet the 90% assets used in the course of carrying on a farming or fishing business in Canada requirement.
Interest in a Family Farm or Fishing Partnership
An interest in a family farm or fishing partnership is very similar to the shares discussed above, with the key difference being that it is for the ownership of a partnership. Similarly, the rules require the same requirements as the Share of the Capital Stock of a Family Farm or Fishing Corporation, but with a change to owning an interest in partnerships instead of shares of a corporation.
Purification Strategies
The term “purification” in this context comes from the idea that we are purging assets that are offside of the QSBC rules and purifying the corporation into being considered QSBC shares or meeting the criteria to be QFFP. Purification strategies mostly relate to claiming the LCGE deduction on QSBC, shares of the capital stock of a family farm or fishing corporation, or an interest in a family farm or fishing partnership. For purposes of our discussion, we will focus on simple purification strategies involving a corporation, specifically, a QSBC.
The most common purification strategy is moving assets that are offside of the QSBC rules out of the corporation. One way of doing this is simply paying a dividend to the shareholders, distributing the offside assets as part of this.
In these situations, the upside is that A Corp will be immediately purified, leaving it with only active assets, thus a 100% active asset percentage. The downside is that Mr. A would receive a $300,000 dividend, which would be taxable to Mr. A and there may also be tax on the disposition of the inactive assets to A Corp.
A modification to this strategy is to use a holding corporation to retain the inactive assets. This strategy is a bit more complex, as we don’t want the holding corporation to hold shares of A Corp (as will be discussed below in Person Selling the Shares). Instead, we will have to go through a series of steps, potentially using stock dividends or other tools to achieve this result.
In this situation, we would go through a series of steps, involving distributing shares up to the shareholder (1), the shareholder transferring the shares to Hold Corp (2), and then using these shares to distribute the inactive assets to Hold Corp (3). This type of planning can typically be done without triggering any tax, unless there are any gains triggered in A Corp on the distribution of the inactive assets.
There are several modifications to the above strategies that can be utilized for varying corporate structures and situations. It is advised that you reach out to a tax professional to assist in navigating these strategies and implementing them in a tax-efficient manner.
Related Party Sales
On the sale of shares or interest in partnerships to related parties, there are a few additional considerations. The first is to ensure that the sale price is at FMV. There are provisions in the Income Tax Act (Canada) that can modify the sales price and adjusted cost base (ACB) in the case that the transaction does not arise at FMV. This provision can result in double taxation in many cases so the sales price should be carefully reviewed to ensure it is accurate.
The second is to consider what type of tax planning the purchasing party wants to undertake after the purchase. A provision of the Income Tax Act (Canada) can limit the ability to implement strategies such as being able to withdraw the amounts paid from the purchased corporation or partnership in a tax-efficient manner.
Finally, you will have to consider several other provisions, some of which may limit or reduce the amount of the LCGE deduction claimed. These provisions can be dependent on a number of factors and as such are not discussed in-depth in this blog post.
Given this, it is highly recommended that sales to related parties be carefully reviewed by tax professionals. This can ensure you are aware of the tax implications you may be facing and appropriately structure the sale to avoid any issues.
Person Selling the Shares
It is extremely important to note that the LCGE is only available to individuals, which are actual persons, not to corporations, etc. Technically, trusts may qualify as individuals where the gain arising on QSBC shares are allocated to an individual. As such, special care should be taken to ensure the shares are held by individuals at the time of sale. For greater clarity, if the shares are held by a holding company and the holding company sells the shares, the individual would not be eligible to claim the LCGE.
It is advised that you discuss your structure with a tax professional to review and see if any changes to this structure could make you eligible to claim the LCGE.
Calculating and Claiming the LCGE
The calculation of the LCGE can be extremely complex. There are a number of factors and limits that go into this calculation. As such, it is advised that you discuss this calculation with a tax professional to ensure it is calculated correctly.
There are essentially four key limits to this deduction:
LCGE amounts and limits
Actual amount of the gain
Annual gains limit
Cumulative gains limit
In order to correctly calculate the deduction, you will need to review each of these limits.
Lifetime Capital Gains Exemption (LCGE) Amounts and Limits
The CRA sets specific lifetime limits on capital gains exemptions (LCGE), periodically adjusted for inflation. Current limits (approximate, indexed for inflation):
Qualified Small Business Corporation Shares: $1,250,000 (indexed for inflation)
Qualified Farming and Fishing Property: $1,250,000 (indexed for inflation)
This limit was recently increased and may be subject to change, however, for current purposes it appears likely to go through. Where the change does not go through, the most recent limit, at the time of writing, was $1,016,836. See our Canada Defers Capital Gains blog for more details.
This limit is then reduced for previous LCGE deductions claimed. For example, if the total limit is $1,250,000 but you previously made a claim of $400,000, your LCGE limit would be revised to $850,000.
Actual Amount of the Gain
To calculate this, you will first need to calculate the capital gain on the sale of any of these properties, which is calculated generally as follows (see our Capital Gain blog for more details):
Capital Gain = Proceeds of Sale - Adjusted Cost Base (ACB) – Costs of DispositionThis would represent the actual amount of the gain calculated and you would thus be limited to this deduction. It is important to note, this calculation may only be for QSBC or QFFP and you would typically not include any gains on properties that do not fit into these descriptions (other than for certain purposes discussed below).
For purposes of this calculation, let’s assume that we had proceeds of $800,000, an adjusted cost base of $290,000, and costs of disposition of $10,000. This would result in a capital gain of $500,000.
Annual Gains Limit
The annual gains limit is a bit more complex, essentially what this does is determines what the gain is for the year under a very specific circumstance. The formula for this calculation is:
A – B
where
A is the lessor of:
The total amount determined for your capital gains less your capital losses
The total amount determined for your capital gains less your capital losses if you only accounted for QSBC and QFFP properties included in this calculation
B is the total of:
The net capital losses from prior years deducted in the current year in excess of the capital gains and losses determined for the year that are in excess of the amount determined by A above
The persons allowable business investment losses claimed in the year (may be discussed in a later blog)This calculation intends to limit the amount you can deduct based on the capital gains or losses in the year, specifically ensuring that the capital gains and losses for QSBC or QFFP would be the maximum amount deductible.
Let’s assume that a person has the following information:
Capital gains on QSBC of $500,000,
Capital gains that are not from QSBC or QFFP of $10,000,
Capital losses that are not from QSBC or QFFP of $6,000,
Net capital losses from prior years deducted in the current year of $15,000, and
Allowable business losses of $0.
In the above calculation, we start with A, where our capital gains on QSBC and QFFP are less then our total capital gains and losses, so we have $500,000. For B, we must include our net capital losses from the prior years deducted and reduce this for the difference between the total capital gains and losses less the amount determined in A, this results in $11,000. We then include our allowable business investment loss of $0, to get a total of $11,000 for B. A less B is calculated as $489,000, noting an annual gains limit of $489,000.
Cumulative Gains Limit
The cumulative gains limit is increasingly complex, in that it intends to track balances over several years. What this essentially does is calculates the capital gains and losses determined in the annual gains limit for several years and further is reduced by LCGE deductions made in previous years and for the persons cumulative net investment loss.
One term in here that is new is “cumulative net investment loss”, which in short is the persons investment expenses less their investment income across several years. Essentially, if you incurred more investment expenses (i.e., expenses on a property, such as interest, carrying charges, etc.) then you earned investment income (i.e., income from a property, such as interest, rental, dividend income, etc.) you would have a balance for your cumulative net investment loss. If your investment income exceeds your investment expenses, your cumulative net investment loss is $0.
The formula for the calculation of the cumulative gains limit is:
Total of all amounts determined under A in the annual gains limit
Less the total of:
Total of all amounts determined under B in the annual gains limit
Specific amounts deducted in 1985
All amounts previously deducted as an LCGE
The persons cumulative net investment lossThis calculation intends to prepare a cumulative annual gains limit and to also reduce for various other amounts. This can make this a tricky calculation to determine and as such it is highly advised that a tax professional be involved.
Let’s assume that a person has the following information:
Cumulative amounts for A in the annual gains limit of $1,450,000,
Cumulative amounts for B in the annual gains limit of $600,000,
Specific amounts deducted in 1985 of $0,
Amounts previously deducted as LCGE of $400,000, and
Cumulative net investment loss of $5,000
As can be seen, we include our cumulative amount for A for the annual gains limit of $1,450,000. We then total our amounts for amounts included in B for the annual gains limit of $600,000, our specific amounts deducted in 1985 of $0, our amounts previously deducted as LCGE of $400,000, and our cumulative net investment loss of $5,000, for a total reduction of $1,005,000. This leaves us with a cumulative gains limit of $445,000.
Determining our LCGE Deduction
Once you have calculated all the limits, you will need to bring them together to determine what your actual deduction is. Using the examples from above, let’s illustrate this.
As we can see, our cumulative gains limit is the lowest and thus our deduction is limited to $445,000. If our actual gain on QSBC was $500,000, this means we have reduced the gain to $55,000. Let’s assume we have a tax rate of 48% and look at exactly how much we saved in taxes.
In the above, we note that we only pay taxes of around $13,200 where we claim the LCGE deduction. If we had not claimed the LCGE, we would instead pay $120,000. This is a difference of $106,800, a huge difference in tax savings by making this deduction. This emphasizes the importance of ensuring you are onside for this deduction so that it can be claimed.
See our Capital Gains blog for a discussion on the calculation of the taxable capital gain and our Basics of Individual Taxation for a discussion on the calculation of taxes payable.
Reporting LCGE on Your Tax Return
Reporting and claiming the deduction for LCGE requires a few steps. The first is to complete Schedule 3 Capital Gains or Losses under Qualified small business corporation shares (QSBC) and/or Qualified farm or fishing property (QFFP). This schedule will require you to include the capital gain realized on QSBC and/or QFFP properties in the year. See Actual Amount of the Gain for details.
The second is to complete form T657 Calculation of Capital Gains Deduction. This form is where you will input the information related to the actual LCGE deduction, such as the information required for the LCGE Amounts and Limits, Annual Gains Limit, and the
These amounts will be reported on the T1 Income Tax and Benefit Return under line 12700 Taxable capital gains for the taxable portion of the capital gains and line 25400 Capital gains deduction for the LCGE deduction claimed in the year.
Wording Differences for LCGE and LCGD
As a minor note, there are technically two phrases’ people will use when they discuss the LCGE.
LCGE: Lifetime capital gains exemption, the total capital gain that can be deducted.
LCGD: Lifetime capital gains deduction, the total taxable capital gain that can be deducted.
The key difference between the two is that the LCGD is calculated after the inclusion rate. For example, if our LCGE is $1,250,000 and we have an inclusion rate of ½ for capital gains, our LCGD would be $625,000 ($1,250,000 / 2).
The reasoning for having two different expressions is that the LCGE is essentially the quoted limit by the CRA and is based on the capital gain pre-inclusion rate, however, for tax purposes, we only include one-half of the capital gains into our income, so we use the term LCGD to determine the actual amount of the tax deduction against our income we receive.
Planning Strategies: Utilizing the LCGE Effectively
Strategically using the LCGE involves:
Purification Strategies: Ensuring your business meets asset requirements in the 24-months before sale (50%) and at the time of sale (90%), known as "purifying" the corporation (see Purification Strategies for more details).
Timing Asset Sales: Selling qualified property when the exemption limit aligns strategically with your financial goals.
Holding Periods: Ensuring you or related parties have held qualified properties long enough (24-month rule) to qualify for LCGE.
Common Pitfalls and How to Avoid Them
Common mistakes include:
Failing to meet asset requirements and ownership eligibility criteria.
Not maintaining appropriate documentation of asset usage.
Missing strategic opportunities for maximizing exemption limits.
Avoid these pitfalls by:
Regularly reviewing property and business structures for LCGE eligibility.
Maintaining comprehensive records proving compliance with eligibility criteria.
Consulting with a tax professional well in advance of planned asset sales.
Documentation and Reporting Requirements
Proper record-keeping and documentation are essential, including:
Records clearly demonstrating compliance with asset and ownership rules.
Accurate calculation and documentation of adjusted cost bases and capital gains.
Professional valuation reports for business assets.
Impact on Other Tax Credits and Benefits
Claiming the LCGE can impact other tax calculations, including income-tested benefits like the Old Age Security (OAS) clawback. Careful planning helps minimize unintended consequences.
Summary
The Lifetime Capital Gains Exemption represents a valuable opportunity for Canadian taxpayers, especially entrepreneurs and property owners, to significantly reduce capital gains taxes. Effective use of the LCGE requires strategic planning, meticulous documentation, and a clear understanding of eligibility requirements. This deduction can be tricky, so it is highly advised that a tax professional, such as KLV Accounting, assist with this deduction.
Stay tuned for our next blog post, where we'll discuss the start discussing tax credits, starting with the basic personal amount and spousal or common-law partner tax credits and how it applies to your taxes.
KLV Accounting, a Calgary-based accounting firm, is here to help. Contact us today to enhance your financial strategy and drive business success! For a free consultation, call us at 403-679-3772 or email us at info@klvaccounting.ca.