Will you have to pay capital gains tax for this tax year? Here’s how to calculate capital gains tax so you have the general path to figuring it out.

When you sell any stock held outside of an RRSP, RRIF or TFSA, you must pay capital gains tax if you’ve made a profit on the sale.  However, determining your capital gains tax is straightforward.

Do you know how to calculate capital gains tax? To calculate your total capital gain tax on shares you sold during the previous tax year, subtract the adjusted cost base of the shares you sold from the total proceeds of the sale. The adjusted cost base of the shares is equal to the cost of the shares plus any costs associated with owning them, such as brokerage commissions.

How do I calculate my capital gain or loss?

The capital gain or loss is calculated by subtracting your adjusted cost base (which includes purchase price plus eligible expenses) from your sale proceeds minus any selling costs or commissions.

Say, for example, you bought 1,000 shares of a stock at $10 per share years ago. When you made the purchase, you paid $50 in brokerage commissions. When the stock reaches $60 per share, you decide to sell. Your proceeds from the sale are $59,950 ($60 per share multiplied by 1,000 shares minus $50 in brokerage commissions) and your adjusted cost base (the cost of purchase) is $10,050 ($10 per share multiplied by 1,000 shares, plus the $50 in commissions).

If you’ve bought shares of the same company more than once, the adjusted cost base you need to calculate your capital gains tax is equal to the average cost of each share. You can determine the average cost by dividing the total cost of all the shares you’ve purchased by the total number of shares you hold.

Dividend payments in cash do not change the shares’ adjusted cost base. You pay tax on the dividends as received each year at the rate on dividends, not capital gains.

However, if the dividend payments are reinvested in additional shares of stock, then the total cost and total number of shares change after each new dividend reinvestment, and you must recalculate your new adjusted cost base. Note that you must still pay taxes on reinvested dividends each year as received.

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Some trust distributions and dividends actually lower your adjusted cost base

As well, portions of some distributions from income trusts such as REITs are treated as a return of capital for capital gains tax purposes. They are non-taxable when you receive them, but instead they lower your adjusted cost base for tax purposes. So they leave you with a bigger capital gain or lower capital loss when you sell.

How are ETF assessed for capital gains?

ETF capital gains are calculated by subtracting your adjusted cost base from the sale price, but there’s an important distinction from stocks: ETFs may also distribute capital gains to unitholders annually when the fund manager sells underlying securities at a profit, and these distributions must be reported on your tax return even if you reinvest them.

The MERs (management fees) are generally much lower on ETFs than on conventional mutual funds. That’s because most ETFs take a passive management style, or a simpler approach to investing. Instead of actively managing unitholders’ investments, ETF providers invest so as to mirror the holdings and performance of a particular stock-market index.

As well, shares are only added or removed when the underlying index changes. As a result of this low turnover, you won’t incur the regular capital gains tax bills generated by the yearly distributions most conventional mutual funds pay out to unitholders.

Bonus Tip: Should you be selling your stocks in the first place?

Stock prices tend to move in short spurts, interrupted by lengthy periods when they mainly move sideways. For this reason, sometimes investors who only focus on price, rather than the fundamentals of their investments, may make changes just for the sake of change.

Selling stocks because you are bored with them is not the kind of mistake that will result in losses this year, but it’s sure to cut deeply into your long-term returns. The reason is that the market’s top performers can bore you to tears for months or years at a time. However, even though they may go sideways for a long time, these stocks can then set off on a big rise. If you sell out of boredom, you would miss that rise.

Use these three tips to see if you should be selling your stocks:

1. Be quicker to sell low-quality stocks, and slower to sell shares of high-quality stocks.
2. Before you sell, ask yourself this: does the stock have a poor fundamental outlook? Or do you want to sell because it just isn’t going up fast enough (see boredom above)?
3. Avoid portfolio tinkering, especially when it comes to selling stocks that you feel have gone up too far and too fast. To succeed as an investor, you need a big winner in your portfolio from time to time. One key fact about big winners is that they tend to go up further and faster than most investors expect, and they keep doing it for years if not decades.

It’s common to sell stocks too early. What’s your experience with that?

What steps do you take to lower your capital gains tax?

This post was originally published in November 2021 and is regularly updated.