Capital Gains Tax Strategies for Canadian Business Owners

At Insight Accounting CPA in Mississauga, we provide expert accounting, tax planning, and advisory services for Ontario businesses across the GTA and Toronto.

Target: Business owners with $500K+ revenue in Mississauga, Toronto, and across Ontario

Introduction: The $500K+ Business Owner’s Guide to Capital Gains

If you’re a business owner in Ontario with annual revenue exceeding $500,000, capital gains tax planning isn’t optional—it’s essential. Whether you’re selling your business, disposing of investment properties, or managing a sophisticated investment portfolio, understanding how to structure transactions can save you hundreds of thousands in taxes.

At Insight Accounting CPA in Mississauga, we specialize in helping high-net-worth business owners navigate Canada’s complex capital gains regime. This guide covers the strategies that actually work for Ontario-based entrepreneurs in 2026.

What You’ll Learn:

How the Lifetime Capital Gains Exemption (LCGE) works in 2026
When to use capital gains stripping vs. dividend strategies
How to structure earnouts to minimize tax
The family trust approach for multi-generational wealth transfer
Provincial nuances that affect Ontario business owners

Understanding Capital Gains Basics for Business Owners

What Constitutes a Capital Gain?

A capital gain occurs when you sell a capital property for more than you paid for it. For business owners, this commonly includes:

Shares of your private corporation
Investment real estate (rental properties, commercial buildings)
Marketable securities held personally or corporately
Goodwill when selling business assets

In Canada, only 50% of capital gains are included in taxable income—this is called the “capital gains inclusion rate.” However, strategic planning can reduce this even further or defer taxation entirely.

The 2026 Capital Gains Landscape

As of 2026, Canadian business owners face:

Component	Rate/Amount	Notes
Capital Gains Inclusion Rate	50%	Applies to all capital gains
Lifetime Capital Gains Exemption	$1,250,000	Indexed annually to inflation
Ontario Combined Tax Rate (highest bracket)	53.53%	Federal + Ontario rates combined
Small Business Tax Rate (Ontario)	12.2%	First $500K of active business income

Source: Canada Revenue Agency, 2026 tax year parameters

Strategy 1: Maximize Your Lifetime Capital Gains Exemption (LCGE)

The LCGE remains the most powerful capital gains tool for Canadian business owners. Here’s how to use it effectively in 2026.

Qualifying for the LCGE

To claim the exemption, your shares must meet strict criteria:

24-Month Ownership Test:

You (or a related person) must have owned the shares for at least 24 months prior to disposition

Small Business Corporation (SBC) Test:

Throughout the 24-month period, the corporation must be a Canadian-controlled private corporation (CCPC)
At the time of sale, at least 90% of the corporation’s assets must be used in an active business carried on primarily in Canada

Active Business Test:

More than 50% of the corporation’s assets must have been used in an active business carried on primarily in Canada during the 24-month period

The $1.25 Million Advantage

With the 2026 LCGE limit at $1,250,000, a qualifying shareholder can shelter:

$1,250,000 × 50% inclusion × 53.53% tax rate = $334,563 in tax savings

For a married couple where both spouses are shareholders, this doubles to $669,126 in potential tax savings.

LCGE Optimization Tactics

1. Crystallize Gains Before Sale

If your shares qualify for the LCGE but you plan to hold for years, consider crystallizing gains now to lock in the exemption:

Structure: Family trust holds shares → sells to holding company
Result: LCGE claimed now, future growth taxed in holding company
Risk: Must re-qualify shares for 24 months if you sell the business

2. Purification Before Sale

If your corporation holds excess cash or investments, these “non-active” assets may disqualify you from the LCGE:

Threshold: More than 10% of total assets as non-active = LCGE denied
Solution: Pay dividends, reduce corporate investments, or transfer assets to a holding company before sale
Timing: Complete purification at least 24 months before planned sale

3. Multi-Shareholder Planning

For family businesses, structure ownership to maximize multiple LCGE claims:

Adult children: Gift shares (at cost) to children over 18 who work in the business
Spousal ownership: Both spouses as shareholders from business inception
Family trust: Consider a discretionary trust to allocate shares flexibly

Strategy 2: Capital Gains Stripping vs. Dividend Strategies

When the LCGE isn’t available or fully utilized, business owners must choose between:

Capital gains stripping (converting dividends to capital gains)
Traditional dividend extraction

Understanding the Tax Difference

Income Type	Top Combined Rate (ON)	Tax on $1,000,000
Eligible Dividends	39.34%	$393,400
Non-Eligible Dividends	47.74%	$477,400
Capital Gains (50% inclusion)	26.76%	$267,600

Rates are illustrative for highest Ontario tax bracket, 2026

Capital gains can provide $129,800 less tax per $1M extracted compared to non-eligible dividends.

Capital Gains Stripping Structure

The classic approach involves:

New holding company (Holdco) created by shareholder
Opco redeems shares from shareholder, creating a deemed dividend
Holdco purchases new Opco shares with the proceeds
Shareholder sells original shares to Holdco at fair market value
Result: Taxed as capital gain, not dividend

2026 Considerations:

The 2017 anti-stripping rules (Section 84.1, 212.1) limit this for non-arm’s length transactions
Professional structuring is essential—CRA actively challenges improper arrangements
Section 120.4 (tax on split income, or TOSI) may apply to family members

When Dividends Make More Sense

Capital gains stripping isn’t always optimal:

RDTOH balances: If your corporation has refundable dividend tax on hand, paying dividends may trigger refunds
Capital dividend account: Existing CDA balances can be paid tax-free as capital dividends
Lower-income years: If you’ll be in a lower tax bracket in retirement, deferring extraction may be wise

Strategy 3: Structuring Earnouts for Tax Deferral

When selling a business, earnouts (future payments contingent on performance) are common. How you structure them dramatically affects your tax bill.

The Reserve Mechanism

Canadian tax law allows a capital gains reserve when proceeds are received over time:

Year of sale: Pay tax on minimum 20% of gain
Following years: Defer remaining gain over up to 5 years (6 years for farm/fishing property)
Formula: Reserve = Gain × (Amount not yet due / Total proceeds)

Sample Earnout Structure

Scenario: Selling your business for $3,000,000 total

$1,500,000 at closing
$1,500,000 earnout over 3 years ($500K/year)

Tax Without Reserve:

Year 1: Tax on full $3M gain (less LCGE if applicable)

Tax With Reserve:

Year 1: Tax on $1,500,000 + (20% of remaining $1,500,000) = $1,800,000
Year 2: Tax on next portion
Years 3-4: Continue spreading gain

Enhanced Earnout Strategies

1. Maximum Reserve Election

You can elect to recognize more gain in early years if advantageous (e.g., expecting higher future income):

Elect out of the automatic reserve calculation
Recognize any portion of the gain you choose

2. Multi-Year Installment Sales

Structure the sale as a true installment sale rather than earnout:

Buyer pays over time regardless of performance
Reserve applies automatically
May qualify for capital gains treatment on all payments

3. Contingent vs. Ascertainable Consideration

Contingent: Future payments depend on unknown events (e.g., revenue targets)
Ascertainable: Future payments are fixed amounts

Tax treatment differs—ascertainable consideration may allow immediate capital gains treatment with reserve, while contingent payments are taxed as received.

Strategy 4: Family Trusts for Multi-Generational Wealth Transfer

For business owners planning to transfer wealth to the next generation, family trusts offer powerful capital gains planning opportunities.

The Family Trust Structure

Parents (Settlors) → Family Trust (Discretionary) → Children (Beneficiaries) → Holdco shares/Opco shares

Capital Gains Benefits

1. Multiplication of LCGE Claims

Each beneficiary who meets the requirements can claim their own LCGE:

Parents: $1,250,000 each
Adult children (if shareholders for 24+ months): $1,250,000 each
Total exemption potential: $5,000,000+ for family of four

2. Income Splitting Opportunities

Trusts can allocate capital gains to lower-income beneficiaries:

Children in university with minimal income
Spouse in lower tax bracket
Adult children starting careers

Example: Allocating $50,000 capital gain to a child with no other income:

Child’s tax: ~$0 (covered by basic personal amount and capital gains inclusion)
Vs. parent’s tax: ~$13,380 (at top Ontario rate)
Savings: $13,380

3. Estate Freeze Implementation

Freeze the value of your shares now, transfer future growth to the trust:

Exchange common shares for fixed-value preferred shares
Trust subscribes for new common shares at nominal value
Future appreciation accrues to trust/beneficiaries
Parents’ estate tax liability frozen

Trust Administration Requirements

Family trusts are not set-and-forget structures:

21-year rule: Trusts are deemed to dispose of assets every 21 years—planning required
T3 returns: Annual trust tax filings required
Beneficiary designations: Document decisions in trustee resolutions
TOSI compliance: Structure carefully to avoid tax on split income rules

Strategy 5: Ontario-Specific Considerations

Provincial Tax Nuances

Ontario business owners face unique considerations:

1. Ontario Health Premium

Unlike some provinces, Ontario’s health premium is not based on capital gains:

Only applies to employment and business income
Capital gains and dividends don’t trigger additional health premium
Planning opportunity: Income smoothing between capital gains and other income

2. Ontario Small Business Deduction (SBD)

The provincial SBD creates a 12.2% tax rate on first $500K of active business income:

2026 threshold: $500,000 (federally and provincially aligned)

When combined with capital gains planning:

Retain active business income in corporation at 12.2%
Extract via capital gains when LCGE available
Effective tax rate: Can be lower than personal capital gains rate

3. Toronto Land Transfer Tax

For business owners investing in Toronto real estate:

Municipal land transfer tax adds to provincial LTT
Combined rates: Up to 6.5% for properties over $2M
Corporate ownership: May provide planning opportunities but consider attribution rules

Mississauga/GTA Business Context

The Greater Toronto Area’s high property values create unique capital gains scenarios:

Commercial Real Estate:

Many Mississauga businesses own their premises
20+ years of appreciation can create massive capital gains
LCGE doesn’t apply—corporate or personal capital gains planning essential

Tech Sector Valuations:

Ontario tech companies may have minimal earnings but high share values
LCGE qualification critical for founder exits
Consider QSBC status early in company lifecycle

Advanced Strategy: The Section 86 Reorganization

Section 86 of the Income Tax Act allows share exchanges that can achieve multiple objectives:

Typical Section 86 Structure

Opco recapitalization: Existing common shares exchanged for:
- Fixed-value preferred shares (frozen value)
- New common shares (nominal value, all future growth)
Estate freeze: Parents’ tax liability fixed at current value
Economic family alignment: New shareholders (children, trust) participate in growth

Capital Gains Implications

Rollover available: No immediate capital gains if structured properly
Adjusted cost base: New shares take on rollover basis
Future sale: Children/trust claim their own LCGE on growth shares

When to Use Section 86

Business valuation has increased significantly
Children are entering the business
Estate planning horizon is 10+ years
LCGE room remains available for children

Common Mistakes to Avoid

1. Missing the 24-Month Window

Many business owners start LCGE planning when they’re already negotiating a sale:

Minimum 24 months required for LCGE qualification
Purification takes time: Moving assets, restructuring
Start early: Begin planning 3-5 years before anticipated exit

2. Ignoring the Alternative Minimum Tax (AMT)

Large LCGE claims can trigger AMT:

2026 AMT rate: 15% federal
LCGE adjustment: 30% of claimed exemption added back for AMT purposes
Solution: Spread LCGE claims across multiple years if possible

3. Failing to Document Business Purpose

CRA challenges often succeed when transactions lack business rationale:

Document everything: Board resolutions, valuation reports, business plans
Arm’s length valuations: Independent appraisals for share transfers
Substance over form: Ensure transactions reflect genuine business purposes

4. Overlooking the Capital Dividend Account (CDA)

Your corporation’s CDA tracks tax-free amounts available for distribution:

Capital gains: 50% of corporate capital gains added to CDA
Life insurance proceeds: Often add to CDA
Capital dividends: Paid tax-free to shareholders

Planning tip: Before extracting retained earnings, check if CDA balances allow tax-free capital dividends.

Action Steps: Your Capital Gains Checklist

Immediate Actions (This Quarter)

Review current corporate structure for LCGE qualification
Calculate available LCGE room for all shareholders
Assess corporate investments (purification needs)
Document active business percentage (asset test)

Medium-Term Planning (Next 12 Months)

Purify corporation if non-active assets exceed 10%
Consider estate freeze if children entering business
Evaluate family trust for multi-generational planning
Review shareholder agreements for buy-sell provisions

Long-Term Exit Planning (2-5 Years)

Obtain business valuation (QSBC qualification assessment)
Structure earnout provisions for tax-efficient payments
Coordinate with legal counsel on share structure
Plan LCGE crystallization before sale negotiations

When to Consult a CPA

Capital gains planning is not DIY territory for $500K+ businesses. Consult a CPA when:

Business valuation exceeds $1M (LCGE threshold)
Considering any corporate restructuring
Planning to sell within 5 years
Family members work in the business (income splitting opportunities)
Own multiple corporations (associated company rules apply)

At Insight Accounting CPA, we help Mississauga and Toronto business owners navigate these complexities. Our AI-enhanced analysis identifies optimization opportunities while ensuring full CRA compliance.

Key Takeaways

The LCGE is your best friend—structure your corporation to qualify and maximize the $1.25M exemption
Start planning 2-5 years before sale—24-month holding period and purification take time
Family trusts multiply benefits—LCGE claims for multiple family members, income splitting, estate freezing
Capital gains vs. dividends—Understand the 20%+ tax rate difference and when each strategy applies
Document everything—CRA challenges succeed on procedural failures, not just substance

Ready to optimize your capital gains position? Contact Insight Accounting CPA at (905) 270-1873 for a consultation tailored to your business situation.

About the Author: Bader A. Chowdry, CPA, CA, LPA is the founder of Insight Accounting CPA, serving $500K+ businesses across Mississauga, Toronto, and Ontario. With expertise in corporate restructuring and exit planning, he helps business owners keep more of what they’ve built.

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