Rent Real EstateCanadians Must Protect Tax-free Status
Many Canadians take the tax-free status of their home for granted. Under the federal Income Tax Act, you are entitled
to tax-free profit on the sale of your principal residence, provided you follow Canada Customs and Revenue Agency (CCRA) guidelines.
To start with, your home is not automatically considered a principal residence.
A vacation property such as a mobile home, houseboat or cottage, may also qualify as a principal residence, even if
it is lived in only a few months of the year. Since a principal residence may be located outside Canada, your snowbird retreat may be eligible. You can choose which property to designate, but you can have only one at a time.
The recent federal budget changed the capital gain rate of inclusion from 3/4 to 2/3, effective February 27, 2000. According to Chartered Accountant Bruce Ball, Senior Manager of National Tax for BDO Dunwoody, without the principal residence exemption, 2/3 of the capital gain realized when you sell would be added to your income and taxed at your marginal tax rate for that tax year. Capital gain is the net difference between the sale price and the cost of a property. He encourages owners with more than one property to keep track of purchasing costs, such as legal fees and land transfer tax, and capital expenditures, such as renovations and improvements, which may be added to the cost of the property to reduce any eventual gain on selling.
Renting out some or all of your principal residence may threaten its tax-free status, according to Mr. Ball, who
says professional advice can minimize the tax owing. If you take in boarders, the entire property should still qualify
when it is sold, provided you live in part of the house. However, where a large home is renovated to add a self-contained suite, CCRA may try to tax the gain later as if it were the sale of two properties: one principal residence and one rental property with no exemption.
To preserve the principal residence status if you rent out your entire property, you must limit the rental to four years, not claim depreciation and file an election or notice with CCRA stating your wish to preserve the principal residence status.
Canada Customs and Revenue Agency states you cannot designate a property as a principal residence if you claim depreciation, which is loss of value for the building as it ages. If you had a 150 square-foot home office in a 1400
square foot home, but did not claim depreciation as a business expense, the tax-free status would be preserved. If you did claim depreciation as a tax deduction for your home-based business, the office would not be designated as your principal residence but the remaining 1250 square feet would be.
If you made a profit on the sale of your cottage but did not report it on your tax return, CCRA may consider the cottage as your designated principal residence and disallow tax-free status for your home. You can also lose the exemption if you
move frequently since that may be considered a business activity which does not qualify.
Tax-free profit is alluring but it can be elusive.