Loss Carry Back or Forward: T2 Schedule 4 (T2SCH4)

Corporation Loss Continuity and Application, also known as T2SCH4, is a form used by Canadian corporations to determine continuity and use of available losses; to determine a current-year non-capital loss, farm loss, restricted farm loss, or limited partnership loss; to determine the amount of restricted farm loss and limited partnership loss that can be applied in a year; and to ask for a loss carry back to previous years. In this blog we will only focus on non-capital losses (Part 1) and capital losses (Part 2) of the form.

Part 1- Non-Capital Loss

It occurs when a company experiences a taxable operating loss during its fiscal year. These losses can be carried back up to three years or carried forward up to twenty years. By offsetting the loss against prior or future years' taxable income, companies can reduce their taxes payable. For instance, if a company had taxable income in the past three years and doesn't anticipate future losses, it might choose to apply the current year's non-capital loss to the highest corporate tax rates from those previous years. Conversely, if a company expects taxable income in the coming years, it may carry the non-capital losses forward to reduce future tax obligations, especially if corporate tax rates are expected to rise.

Determination of Current Year Non-Capital Loss

To determine the current-year non-capital loss, you have to complete Part 1. The first few lines of Part 1 focus on the determination of the non-capital loss which will either be carried forward to future years or carried back. The main elements of this section are:

Net income (loss) for income tax purposes

Deduct:

Net capital losses deducted in the year,

Taxable dividends deductible,

Tax deductible under paragraph 110(1) – Preferred shares

Deductibles for prospector’s and grubstaker’s shares deduction

Employer deduction for non-qualified securities

Subtotal:

If the result is positive, enter "0"

Deduct:

Addition for foreign tax deductions

Add :

Current-year farm loss (If any)

Total:

Current year non-capital loss

Continuity of Non-Capital Losses

The second section of Part 1 determines the non-capital losses before any request for carry back by reconciling the balances between non-capital losses in the current year and at the end of the previous year, expired net capital losses, and non-capital losses which were transferred as the result of amalgamations or wind-up of a subsidiary.

Request to Carry Back Non-Capital Loss

This section of Part 1 allocates the balance of the non-capital losses to previous tax years to any of the following:

First to third previous tax years to reduce taxable income, and/or

First to third previous tax years to reduce taxable dividends.

Part 2 - Capital Loss

on the other hand occurs when a company disposes a capital asset (such as real estate or securities) for less than its adjusted cost base, plus any associated costs such as legal or real estate broker fees. Capital losses can be carried back three years or carried forward indefinitely. However, they can only be used to offset capital gains. In other words, a company must have previously sold a capital asset at a profit before applying a capital loss. Part 2 is divided to two main sections:

Continuity of Capital Losses

This section reconciles the balance of previous year capital losses, addition of current year capital losses as per Schedule 6, and allowable business investment losses (ABIL) that expired at the end of the previous tax year as non-capital losses. We will not delve into the various adjustments that are calculated in this section since they may distract the reader from the main point. One important point regarding this section is the application of previous tax years capital losses against the current year capital gain. To get the net capital losses required to reduce the taxable capital gain included in the net income (loss) for the current tax year, you must enter the amount of the capital loss divided by 2 to account for the 50% inclusion rate.

Request to Carry Back Capital Loss

This section of Part 2 allocates the balance of the capital losses to previous tax years to any of the following:

First previous tax year

Second previous tax year

Third previous tax year

For further information please contact Taxtron Support at 416-491-0333 or visit www.taxtron.ca