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Capital gains surplus stripping: What Canada's physicians need to know

Mature man sitting on stone steps, thinking.

In July 2017, when the federal government first proposed changes to passive income and income sprinkling rules affecting Canadian corporations, the government also wanted to eliminate a corporate tax strategy called “capital gains surplus stripping.” At the time of this writing, Ottawa has yet to move forward with the elimination.

Capital gains surplus stripping has been attracting a lot of attention from those wondering whether they should take advantage of it before this strategy possibly becomes unavailable.

If you’re an incorporated physician, here’s what you need to know before deciding whether to implement this tax strategy.

About this strategy, the benefits and risks

What is capital gains surplus stripping and how does it work?

Capital gains surplus stripping refers to tax strategies that let you distribute cash from your corporation as a capital gain instead of pulling the cash out as dividends, which are more highly taxed.

Here’s one way this tax strategy works, in simple terms. (Please note, however, that this article does not cover all possibilities and should not be considered tax advice. If you wish to pursue this strategy, you should seek professional guidance and take your unique circumstances into account.)

You start by creating a new corporation (which we’ll call “Newco”). Your medical professional corporation (“MPC”) then goes through a special transaction where you get different shares of your MPC. You then sell these different MPC shares to Newco at their fair market value in exchange for a note payable. This series triggers a capital gain that you must report on your personal income tax return.

Only 50% of capital gains are taxable. Over time, you can use assets from your original company to repay the note payable (through tax-free inter-corporate dividends to Newco or by combining the two companies). The amounts that you receive on the note payable are not taxable to you.

How much could you save in taxes?

Let’s assume your current corporation has a lot of assets and that you want to take out $250,000 to use personally, whether it’s to pay down your mortgage, buy a cottage or spend in other ways.

The following table illustrates how much you would need to withdraw before tax to get $250,000 after tax.

Comparing tax rates: Non-eligible dividends vs. capital gains


Non-eligible dividends1

Capital gains

Top tax bracket rate (federal + Ontario)



Required to net $250,000



Amount remaining after tax



Difference before costs



By taking the funds out as capital gains instead of dividends, you save $137,036 in personal taxes.

How much would it cost to implement this strategy?

Capital gains surplus stripping is complex and must be carefully planned and executed by tax professionals and lawyers to achieve the desired outcome while mitigating risk. When calculating the potential savings, be sure to include the cost to implement this strategy.   

Costs would include fees for planning memos, incorporation costs, legal fees for execution of notes payable, purchase and sale agreement costs, amalgamation/windups costs, tax compliance costs for all related tax filings, accounting fees and registration costs.

We’ve seen fees ranging from $5,000 to $50,000 and more. Keep in mind that it is important this transaction be done properly.

What’s more, you must be willing to accept tax risk. Though your professionals may execute the strategy properly, Canada Revenue Agency (CRA) could still challenge the transactions on several grounds and treat the amounts as taxable dividends. If the CRA is successful in its challenge, you face increased taxes, interest charges and professional costs to deal with CRA. Ask your professional advisors about the potential tax risk in your situation, as it can be different for every case.

When this strategy is not the best course of action

Capital gains surplus stripping can be beneficial, but it doesn’t live up to the potential described above in all cases. The best-case scenarios are probably where future taxes will be higher than present taxes are, and you are already planning to take significant funds out of the corporation in the short term.

To make the best decision, you need to consider your time horizon, retirement plans and other aspects of your financial plan.

Let’s look at situations that would make this strategy much less advantageous for you than it might appear at first glance.

Time value of money

If you don’t currently need the money, you will be prepaying tax today to potentially save tax in the future. But if your time horizon before needing the money is long, keeping the pre-tax capital invested may be more beneficial financially.

The importance of a high tax bracket

The capital gains surplus stripping strategy assumes that you will always be in a high tax bracket. As an incorporated physician, however, you’ll likely pay lower taxes in retirement than during practice. Your income needs may change, you’ll be able to take tax-effective distributions from your corporation, and there will be more income-splitting opportunities with your spouse or common-law partner. These can all reduce your taxes and can significantly reduce or even eliminate the future tax benefits of capital gains surplus stripping.

Estate planning considerations

As we’ve noted above, the best-case scenario for this tax strategy is where you expect your future taxes to be higher than your present taxes are. This is usually the case when you die, and your estate has to pay taxes. However, a corporate-owned insurance policy can solve this issue with lower tax consequences compared to capital gains surplus stripping.

How to proceed if the strategy would benefit you

If you decide that this strategy would work well for you and your specific situation, there are a few more things to consider as you proceed.

The importance of expertise

Because capital gains surplus stripping is a tax strategy, it is often initiated by a specialized tax advisor . However, you should also seek independent legal advice, ideally from a lawyer who’s knowledgeable about medical professional corporations and can draft and execute any of the required legal documents (incorporation documents, purchase and sale agreements, notes payable, etc.). Generally, tax professionals work with legal advisors to plan, advise on and undertake this type of strategy.

Provincial/territorial differences

It’s possible that your province or territory may not permit Newco to temporarily own professional corporation shares. Legislation in Alberta, Ontario, and Newfoundland and Labrador do not permit this. There may be relevant exceptions, which is where independent legal advice comes in. Nunavut does not have legislation for professional corporations.

The bottom line is that the impact is not the same for everyone. If you have questions about this tax strategy, discuss with your tax advisor. If you have questions as to how it fits into your overall financial plan, please contact an MD Advisor* to learn more. 

* MD Advisor refers to an MD Management Limited Financial Consultant or Investment Advisor (in Quebec), or an MD Private Investment Counsel Portfolio Manager.

1 Non-eligible dividends are paid by Canadian-controlled private corporations (CCPCs) that can access the small business tax rate, which is approximately 10%. Non-eligible dividends attract higher personal income tax rates as they are paid out of after-tax corporate earnings that were taxed at the lower small business tax rate. Eligible dividends are paid by public Canadian companies and by CCPCs that pay the general corporate tax rate, approximately 27%. Eligible dividends attract lower personal income tax rates as they are paid out of after-tax corporate earnings that have been taxed at the higher general corporate tax rate.

The above information should not be construed as offering specific financial, investment, foreign or domestic taxation, legal, accounting or similar professional advice, nor is it intended to replace the advice of independent tax, accounting or legal professionals.