Do My Shares Qualify for the Lifetime Capital Gains Exemption in Ontario?

If you own a private corporation in Ontario and are planning to sell your shares, the lifetime capital gains exemption (LCGE) may shelter part or all of your gain from tax. For many owners it is a large part of the tax picture in a sale, so it is worth understanding early.

The exemption is not automatic. Your shares have to meet specific tests, and several other rules can shrink the amount you are able to claim. This article walks through how much the exemption is worth, the three share tests, what can reduce it and how it is claimed.

How much is the exemption worth?

An individual who sells qualified small business corporation shares (QSBC shares), or qualified farm or fishing property, may claim the capital gains deduction on line 25400 of the return. For 2025 and for dispositions after June 24, 2024, the exemption is $1,250,000 of capital gains, which is a maximum capital gains deduction of $625,000, or 50% of $1,250,000.

The deduction is written into Income Tax Act s. 110.6(2) as a formula built on $625,000. Any deduction you claimed in earlier years reduces what is left. You can claim any amount up to the maximum allowable in a year.

The $625,000 amount is indexed to inflation for taxation years that begin after 2025. Because of that, check the current indexed figure for the year of your sale before relying on any number you see quoted.

Only one-half of a capital gain is taxable under Income Tax Act s. 38(a).

The three tests your shares must pass

To be QSBC shares, the shares must pass three tests. The tests look at different points in time, which is why planning ahead matters.

• Test 1, at the time of sale: the share must be a share of a small business corporation, owned by you, your spouse or common-law partner, or a partnership you belonged to. A small business corporation is a Canadian-controlled private corporation (CCPC) in which 90% or more of the fair market value of the assets is used mainly in an active business carried on primarily in Canada, is shares or debts of connected small business corporations, or is a combination of these.
• Test 2, the 24-month holding period: throughout the 24 months immediately before the sale, nobody other than you or a person or partnership related to you can have owned the share.
• Test 3, the 50% asset test: throughout those 24 months, while you or a related person owned it, the share must have been a share of a CCPC with more than 50% of the fair market value of its assets used in an active business, or invested in qualifying connected corporations.

The 90% test applies only at the time of sale, while the more-than-50% test must be met throughout the 24 months. A company holding too much cash or investments that are not used in the active business must bring its non-active assets below those thresholds, at the right times, for the shares to qualify. How to do that can raise other tax issues, so get tax advice for your own corporation.

Special rules that can help or catch you out

• Newly issued shares: shares a corporation issued after June 13, 1988 are deemed to have been owned by an unrelated person before they were issued, so the 24-month clock starts when they are issued. This does not apply to shares issued in exchange for other shares, for all or substantially all the assets of an active business (or a partnership interest holding such assets), or as a stock dividend.
• Purchase and sale agreements: a right under a purchase and sale agreement for a share is not counted when deciding whether the corporation is a small business corporation or a CCPC. Signing an agreement with a non-resident or public buyer does not by itself end CCPC status.

What can reduce or deny your claim

Meeting the share tests does not guarantee the full amount. Several things can cut the deduction or remove it.

• Cumulative net investment loss (CNIL): the amount by which your total investment expenses since 1987 exceed your total investment income since 1987. A CNIL balance reduces the deduction available.
• Allowable business investment losses (ABILs): an ABIL claimed for 2025 reduces the deduction for 2025 and future years.
• Deferred gains: deferred capital gains, such as gains held back under a reserve or deferral, do not qualify for the deduction.
• Residence: only an individual resident in Canada throughout the year can claim it. If you were resident at any time in the year, you are deemed resident throughout it if you were also resident throughout the year before or the year after.
• Unpaid dividends: the deduction can be denied where a significant part of the gain can reasonably be attributed to dividends not being paid on a share, or being paid at less than 90% of the average annual rate of return.
• Sales to a related corporation: where you sell shares to a corporation you do not deal with at arm's length and the two corporations become connected, non-share consideration above the greater of paid-up capital and adjusted cost base is deemed a dividend instead of a capital gain, and the exemption cannot shelter that amount. Intergenerational transfers to corporations controlled by adult children have their own conditions.
• Alternative minimum tax (AMT): a large gain sheltered by the exemption can trigger AMT, which is calculated on Form T691.

How the claim is made, and what to do next

To claim the deduction, you complete Form T657, Calculation of Capital Gains Deduction. If you had investment income or expenses in any year from 1988 to 2025, you must also complete Form T936 for your cumulative net investment loss.

• Confirm the share tests are met now and were met throughout the past 24 months.
• Review how the corporation's assets are split between active and non-active.
• Gather your past returns to find any earlier deductions claimed, your CNIL and any ABILs.
• Confirm your residence status for the year of sale and the years around it.
• Get tax advice before signing a sale agreement, since the tests are applied to facts that are hard to fix afterwards.

Because the rules turn on your corporation's history and your own tax record, a lawyer or accountant can confirm how they apply to you before you commit to a deal.

Frequently asked questions