Typically, people make donations of cash. The regular system gives a tax credit at the prevailing top marginal rate on cash donations above $200 per year.
A few years ago, the government introduced preferential capital gains taxation for gifts of stock to encourage donations to charitable organizations or public foundations. Initially, the incentive saw the capital gains tax rate drop by half; however, since May 2, 2006, the capital gains tax rate has been reduced to zero! Private foundation stock donations previously were not eligible but they are now, commencing with the federal budget amendment of March 18, 2007.
The charity issues a donation receipt for the full market value of the security at the time of donation. This is considered a disposition of your stock, triggering capital gains tax. However, the preferential treatment is that the taxable capital gain on the disposition is effectively relieved from taxation.
The following types of investments qualify :
- Stocks and bonds listed on a prescribed stock exchange (including TSE, CDNX, New York, Amex, NASDAQ)
- Units of a widely held Canadian mutual fund trust
- An interest in an insurance company’s segregated fund trust
- Certain government bonds
A security with a market value of $10,000 is donated. The cost of the security is $2,000, so the capital gain is $8,000. The taxpayer’s marginal tax rate is the top rate (43.7%). The after-tax cost to the donor is:
|market value of security||
|regular tax on the capital gain||
|($8,000 x 1/2 x .437)|
|less the special gain reduction||
|($8,000 x 1/2 x .437)|
|less the regular donation credit||
|($10,000 x .437)|
Thus, the total value of the tax break is $6,118 and the after-tax cost to the donor is $3882.
An important point to grasp here is that, if you are going to take maximum advantage from this special treatment, you want to donate a stock which has a significant gain, not a modest one. The point is to maximize the benefit of the extra 1/2 reduction in the capital gain tax. Thus, you want to select a stock with “High-Low”, meaning a high market value and a low cost base. A hypothetical example that we calculated showed that the extra tax break on a High-Low was 33% versus 3% for a High-High.
We have developed a handy little formula which quickly helps you to calculate the total value of the tax break from gifting a stock. The purpose of this formula is to highlight the relative impacts of high and low market values and cost bases. For the taxpayer in the previous example who is in the top tax bracket, the formula is:
Tax break = .655 (A) minus .2185 (B),
where A is the market value (and therefore proceeds of disposition)
and B is the cost base of the donated stock
Thus, as in the previous example at the top tax bracket, this amounts to .699($10,000) minus .437($2,000) = $6,118. Don’t forget that this tax break is reduced by the regular capital gains tax (see previous example).
The following chart provides a handy reference for several 2002 tax brackets (in the province of BC):
|Taxable income||Tax break formula|
|Above $125,000||.655 (A) – .2185 (B)|
|$95,909-$120,887||.6105 (A) – .2035 (B)|
|$78,984-$95,909||.5955 (A) – .1985 (B)|
|$37,178-$68,794||.468 (A) – .156 (B)|
Other things to consider:
- The above analysis ignores the OAS clawback which applies to seniors over age 65 with taxable income above approximately $62,000 (2006). In fact, the addition of the clawback to this analysis would create an even bigger benefit to in-kind gifting
- Remember that your taxable income amount would be increased by the addition of the deemed capital gain when you select your tax bracket in the above chart
- You only want to donate stocks which are “winners”, i.e. don’t donate stocks with capital losses
- Stock gifting as an estate strategy is particularly attractive because you would be paying the capital gains tax on death anyway
- You should check with your preferred charitable organization to ensure that it is set up to accept stock donations
- A query came up recently whether a NYSE US$-denominated exchange traded fund would qualify for this tax-free treatment. Some of the literature seems to restrict to “Canadian.” However, the answer is: yes, it can
Last update: Aug 2015
See companion article “The (Tax) Art of Giving“