What is the capital gains reserve?
The capital gains reserve (section 40(1)(a)(iii) of the Income Tax Act) lets you defer reporting part of a capital gain when you haven’t received all the proceeds in the year of sale. Instead of reporting the full gain up front, you spread it over the years you actually receive the money.
This most commonly applies to:
- Installment sales — selling property (real estate, a business, shares) with payments spread over several years
- Vendor financing — you provide a loan to the buyer and receive payment over time
- Departure tax — emigrating from Canada triggers a deemed sale, but you haven’t received any actual proceeds
How the reserve calculation works
The maximum reserve you can claim in a year is based on the proportion of proceeds not yet due:
But there is a minimum inclusion rule: you must include at least 20% of the gain per year. This means the gain is fully recognized within 5 years at most (10 years for qualifying farm, fishing, or small business property transfers to children).
| Year | Minimum cumulative gain reported | Maximum reserve remaining |
|---|---|---|
| Year 1 (sale year) | 20% | 80% |
| Year 2 | 40% | 60% |
| Year 3 | 60% | 40% |
| Year 4 | 80% | 20% |
| Year 5 | 100% | 0% |
If you actually receive the proceeds faster than the minimum schedule, you include the gain at the actual collection rate (which may exceed 20% per year).
Example: selling a rental property in installments
You sell a rental property for $500,000 (ACB of $300,000, gain of $200,000). The buyer pays $100,000 per year over 5 years.
| Year | Received | % not yet receivable | Reserve claimed | Gain reported |
|---|---|---|---|---|
| 1 | $100,000 | 80% | $160,000 | $40,000 |
| 2 | $100,000 | 60% | $120,000 | $40,000 |
| 3 | $100,000 | 40% | $80,000 | $40,000 |
| 4 | $100,000 | 20% | $40,000 | $40,000 |
| 5 | $100,000 | 0% | $0 | $40,000 |
Result: the $200,000 gain is spread evenly over 5 years ($40,000/year), potentially staying in a lower tax bracket each year.
The reserve for emigrants (departure tax deferral)
When you emigrate from Canada, the CRA triggers a deemed disposition at fair market value. You have a large gain but received no actual proceeds — making you eligible for the reserve.
How it works for emigrants
- The entire proceeds are "not yet receivable" (you haven’t sold anything), so the formula produces a large reserve.
- The 20%-per-year minimum still applies: you must include at least 20% of the deemed gain on your departure return.
- In subsequent years, you file a section 216 return (or elect under section 220(4.5)) to bring back 20% of the gain each year.
- If you actually sell the property before the 5-year period ends, the remaining reserve is fully included in that year.
- The CRA typically requires security (a bank letter of guarantee or similar) to grant the deferral.
Who can claim the reserve
The reserve is available when:
- The proceeds (or part of them) are not receivable until after the end of the tax year
- The sale is to an arm’s-length buyer (non-arm’s-length sales to a corporation have restrictions)
- You were a Canadian resident at the time of the sale (or the deemed disposition applies)
When you cannot claim the reserve
- Non-arm’s-length sales to a corporation: The reserve is generally denied if you sell property to a corporation you control.
- Death: On the terminal return, no reserve can be claimed (the gain is fully included).
- Becoming a non-resident after sale: If you claimed a reserve and then emigrate, the remaining reserve is included on your departure return.
- Trusts: Certain trust dispositions have limited or no reserve eligibility.
Reporting the reserve on Schedule 3
The reserve uses a claim-and-recapture mechanism on Schedule 3:
- Year of sale: Report the full gain, then deduct the reserve on line 6 of Schedule 3. The net taxable gain reflects only the portion you’re including this year.
- Each subsequent year: Add back last year’s reserve as income (line 7), then claim a new (smaller) reserve for the current year. The difference is your gain for this year.
- Final year: Add back the prior year’s reserve with no new reserve — the remaining gain is fully included.
The annual cycle continues until either you’ve received all the proceeds, or 5 years have passed (whichever comes first).
Tax planning with the reserve
The reserve is one of the few tools that lets you smooth a large one-time gain across multiple years. This can:
- Keep you in lower brackets: A $200K gain reported in one year pushes you into the highest bracket. Spread over 5 years, some or all stays in lower brackets.
- Preserve income-tested benefits: OAS clawback, GIS, CCB, and provincial benefits use net income as the test. Spreading the gain reduces each year’s income impact.
- Manage the inclusion rate threshold: With the 2/3 inclusion rate applying above $250K in annual capital gains, spreading gains across years can keep each year under the threshold.