Tax Relief for Canadian Investors After a Company Bankruptcy

Can you save on tax when a company you invest in goes bankrupt?

Short answer: maybe. Whether you can claim a tax deduction depends on where you held the shares, whether the company was public or private, and the circumstances that led to the loss. Below is a clear guide to help you determine when and how you can claim a deduction on your tax return.

Which account held the investment?

If the shares were held inside a tax-advantaged account such as a registered retirement savings plan (RRSP) or a tax-free savings account (TFSA), you cannot claim a tax deduction for the loss. Losses inside RRSPs and TFSAs are not deductible against income or capital gains. This is one of the trade-offs of tax-preferred accounts: gains grow tax-free (or tax-deferred), but losses do not generate deductions.

Remember that RRSP withdrawals are taxable when taken, so a loss inside an RRSP effectively reduces the value of a taxable future withdrawal rather than producing a tax deduction today. TFSA contribution room is not restored for withdrawn or lost amounts, so a TFSA loss simply reduces your available tax-free assets.

Was the stock public or private?

The tax treatment differs significantly between publicly traded shares and shares of a private company.

For publicly traded securities held in a taxable, non-registered account, a loss is generally treated as a capital loss. Capital losses can be used to offset capital gains in the same year, carried back three years to reduce past capital gains, or carried forward indefinitely to offset future capital gains.

If the shares were in a private company, you may qualify either for a capital loss or, in some cases, an allowable business investment loss (ABIL). An ABIL is a special type of loss that applies to certain small business corporation shares and can offer broader tax relief than a standard capital loss.

Claiming a capital loss

Capital losses arise when you dispose of an investment for less than your cost or are deemed to have disposed of it. Deemed dispositions can be triggered by specific events under tax rules. Note that transferring an investment into a registered account may trigger superficial loss rules that prevent claiming a loss in certain circumstances.

If a stock goes bankrupt, you can usually claim a capital loss even if you cannot sell the shares on the market. The Canada Revenue Agency (CRA) allows a loss claim when the taxpayer still owned the share at year-end and the corporation was bankrupt, subject to specific conditions such as insolvency, winding-up orders, or an expectation the company will be dissolved.

To claim the loss, you typically file an election in writing with your tax return in the year of the loss, indicating you are making an election under subsection 50(1) of the Income Tax Act. Some brokerages will buy the worthless shares from you for a token amount and issue a T5008 slip showing the disposition—often charging a small administrative fee—but this gives you an official record and removes the security from your account.

Capital losses first offset capital gains in the same year. Excess losses can be carried back up to three years to reduce past taxable capital gains or carried forward indefinitely to offset future capital gains.

Allowable business investment losses (ABILs)

If the bankrupt company was a Canadian-controlled private corporation and qualified as a small business corporation (SBC), you may be eligible to convert the loss into an allowable business investment loss (ABIL). An SBC generally has most of its assets used in an active business carried on primarily in Canada, or consists mainly of shares or debts of connected SBCs.

ABILs differ from capital losses because an ABIL allows a deduction against all sources of income, not just capital gains. When you claim an ABIL, only 50% of the loss is treated as an allowable deduction for income purposes. If that deduction creates a loss for the year that exceeds your income, the resulting non-capital loss can be carried back three years or forward up to 10 years against all income. If you cannot use it within 10 years, the unused portion converts to a capital loss that can be carried forward indefinitely against capital gains.

Key takeaways: tax relief when a company fails

To summarize: you may be able to claim a tax benefit when a company you own goes bankrupt, but it depends on three main factors:

• Where the shares were held—losses in RRSPs and TFSAs are not deductible.
• Whether the shares were publicly traded or in a private company—public shares generally produce capital losses; private-company shares can sometimes qualify for an ABIL.
• Meeting the CRA conditions and filing the appropriate election—subsection 50(1) election and documentation (or obtaining a T5008 from your broker) are often required.

If you think you qualify for an ABIL or want to ensure you claim a capital loss correctly, consider consulting a tax professional or your accountant to confirm eligibility and to prepare the required election or supporting documentation for your tax return.

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