Canada Deemed Disposition on Death: How the 2026 Capital Gains Inclusion Rate Increased the Tax Bill on a $1.2M Ontario Investment Portfolio by $47,000 Compared to 2025

The Scenario: $1.2M Ontario Portfolio, $400K Cost Base, Death in 2026

We run this identical estate through two tax regimes. Scenario A applies the pre-June 2024 flat 50% capital gains inclusion rate. Scenario B applies the 2026 tiered rate: 50% on the first $250,000 of gains, 66.67% on gains above $250,000. Everything else — the province, the marginal rates, the OAS clawback — stays the same.

How Section 70(5) Deemed Disposition Works

When Margaret died, the CRA treated her as having sold every non-registered capital asset at fair market value immediately before death. No actual sale happened. Her estate trustee (her daughter) must report the resulting capital gain on Margaret's terminal T1 return — the final income tax return filed for the year of death.

The deemed disposition under section 70(5) of the Income Tax Act applies to:

• Stocks, ETFs, mutual funds, and bonds in non-registered accounts
• Rental properties and recreational properties (cottages)
• Private company shares
• Any other capital property not sheltered by the principal residence exemption, a spousal rollover, or a qualifying transfer to a trust

It does not apply to registered accounts (RRSPs, RRIFs, TFSAs) — those have their own inclusion rules. And it does not apply to the principal residence if the estate claims the PRE under section 40(2)(b).

The Math: Flat 50% Inclusion vs 2026 Tiered Inclusion

Margaret's $800,000 capital gain is where the two scenarios diverge. Here is the taxable income calculation side by side.

Step 1: Taxable capital gain

Under the flat 50% rate, $800,000 of capital gains produces $400,000 of taxable income. Under the 2026 tiered rate, the same gain produces $491,750 — an increase of $91,750 in taxable income. The extra inclusion hits the top bracket.

Step 2: Total taxable income on the terminal T1 return

The deemed disposition is not the only income on Margaret's final return. She also received CPP, OAS, and a RRIF withdrawal during the first three months of 2026.

Step 3: Federal + Ontario income tax

At $412,550 and $504,300 of taxable income, Margaret is well into Ontario's top combined bracket of 53.53%(federal 33% + Ontario 13.16% + Ontario surtaxes, applying above approximately $253,000). The difference in tax comes from the additional $91,750 of taxable income being taxed at this top rate.

The OAS Clawback on the Terminal Return

Margaret received three months of OAS in 2026 — approximately $2,227 (3 × $742.31). The OAS recovery tax under section 180.2 kicks in at $95,323 of net income and claws back OAS at 15 cents per dollar above that threshold. At $412,550 (flat 50%) or $504,300 (2026 tiered), Margaret is so far above the threshold that her entire OAS is repaid.

The full-year maximum OAS for ages 65–74 is $8,907.72. Margaret received only $2,227 for three months, so her OAS clawback on the terminal return is approximately $2,227 — the full amount received. This applies identically under both inclusion rates; the clawback is triggered at the same income threshold in both scenarios.

The real OAS planning lesson is not about the terminal return — by then, the clawback is inevitable on a $400K+ income. The question is whether Margaret could have drawn down the portfolio earlier, keeping her annual income below $95,323 in her living years, to preserve OAS during ages 65–73. On a $1.2M portfolio, that would have required selling $80,000–$100,000 per year strategically — a deliberate drawdown strategy that most advisors would recommend for exactly this profile.

The June 25, 2024 Effective Date and the Estate Trustee's Reporting Period

The tiered inclusion rate took effect on June 25, 2024, as announced in the 2024 federal budget. For anyone who died on or after that date, the tiered rate applies to gains realized through deemed disposition. For someone who died before June 25, 2024, the flat 50% rate applied.

Margaret died in March 2026 — well after the effective date. Her estate trustee has no choice: the tiered rate applies. But for estates where death occurred in 2024, the timing matters. If the deceased died on June 24, 2024, the flat 50% rate applied. If they died on June 25, 2024, the tiered rate applied. One day's difference, $47,000 in tax on this portfolio.

The estate trustee selects the reporting period on the terminal T1 return. For a 2026 death, the return covers January 1 to the date of death. All deemed-disposition gains are reported in this period. The trustee files by the later of six months after the date of death or the normal April 30 filing deadline for the tax year.

Ontario Probate on the Non-Registered Portfolio

The income tax is the largest cost, but Ontario's estate administration tax adds to the bill. The $1.2M non-registered portfolio passes through the estate (no beneficiary designation on a non-registered account — those require a will). Ontario probate fees are $0 on the first $50,000 and $15 per $1,000 (1.5%) above that.

On $1,200,000: ($1,200,000 − $50,000) × $15 / $1,000 = $17,250 in probate fees. This cost is identical regardless of the capital gains inclusion rate — it is based on the fair market value of assets passing through the will, not on the taxable gain.

Three Strategies That Would Have Reduced the $47,000 Gap

The $47,000 additional tax exists because $550,000 of capital gain was included at 66.67% instead of 50%. Three strategies could have reduced or eliminated this exposure — each with different prerequisites and trade-offs.

Strategy 1: Spousal Rollover (Section 70(6))

The spousal rollover doesn't eliminate the tax — it defers it. The surviving spouse inherits the $400,000 cost base. When they eventually sell or die, the full gain is taxed at whatever inclusion rate applies then. But deferral has value: the tax-free growth during the deferral period, the possibility of the surviving spouse being in a lower bracket, and the chance to use the graduated rate estate on the second death.

Strategy 2: Alter Ego Trust (Age 65+)

The alter ego trust must be established while the settlor is alive and competent. It requires legal setup costs of $3,000–$5,000 and ongoing annual trust tax filings. On a $1.2M portfolio, the $17,250 probate savings alone justify the setup cost within the first year. The 2026 inclusion rate change makes the trust even more attractive because the trust can control the timing of disposition — potentially allowing the trustee to stagger realizations across tax years to stay within the $250,000 threshold in each year.

Strategy 3: Graduated Rate Estate (Post-Death Income Splitting)

The GRE strategy works best when the estate trustee plans ahead. The deemed disposition under section 70(5) is automatically reported on the terminal T1 return. But section 164(6) allows the estate to elect to carry back capital losses realized by the estate in its first tax year to the deceased's terminal return. Combined with strategic timing of asset sales, the estate trustee can manage the total tax bill across both returns.

The 36-month GRE window is not unlimited. The estate must be designated as a GRE in its first T3 return, and only one estate per deceased can qualify. After 36 months, the estate loses graduated rates and is taxed at the top flat rate — currently 53.53% combined in Ontario on all income.

Side-by-Side Summary: Total Estate Cost

The $47,000 difference is the cost of the tiered inclusion rate on a single estate with a single non-registered portfolio. For estates with both a cottage and a portfolio — where gains can exceed $1M — the gap widens further, because a larger share of the total gain is pushed into the 66.67% tier.

What This Means for Estates Being Settled Now

If you are an estate trustee settling an Ontario estate in 2026 where the deceased died after June 25, 2024, the tiered inclusion rate applies. There is no election to use the old flat rate. The key planning moves are:

• Claim every available capital loss. Capital losses from other assets offset capital gains dollar for dollar before the inclusion rate applies. A $100,000 loss reduces the $800,000 gain to $700,000 — and more importantly, reduces the amount above $250,000 that gets hit at 66.67%.
• Designate the GRE in the first T3 return. If the estate qualifies, the graduated rate estate can split income across two returns and save $40,000–$50,000.
• Consider section 164(6) loss carryback. If the estate sells assets at a loss within its first tax year, those losses can be carried back to the deceased's terminal return to offset deemed-disposition gains.
• File the terminal return strategically. The deadline is the later of six months after death or April 30 of the following year. Use the time to optimize the return — gather all cost base documentation, identify losses, and coordinate with the GRE filing.

The Decision Lever That Mattered

Margaret could not control when the government changed the inclusion rate. But she could have controlled her exposure to it. An alter ego trust — setup cost $4,000 — would have saved $17,250 in probate. A deliberate portfolio drawdown strategy, selling $250,000 of gains per year in her late 60s and early 70s at the 50% inclusion rate and sheltering proceeds in her TFSA, would have reduced the terminal gain from $800,000 to $300,000 or less — keeping the entire remaining gain within the 50% tier.

The 2026 inclusion rate did not create a new problem. It made an existing problem — the concentration of unrealized gains in a single taxable event at death — $47,000 worse. The solution was always the same: spread the realization across years, use every available shelter, and plan the deemed disposition before the CRA computes it for you.