The Canadian tax system has what is referred to as the
'principal residence exemption.' This exemption allows you
to sell a residence that you 'ordinarily inhabited' and pay
no tax on the capital gain that will arise if the property
increases in value from the date of purchase. In general terms, a
principal residence is defined to include:
A mobile home
A leasehold interest in a house
A share of the capital stock of a co-operative housing
Further, 'ordinarily inhabit' is not a defined term in
the Income Tax Act. This is generally based on the facts of each
situation. However, you don't need to spend a significant
amount of time at the residence in order for it to be considered
ordinarily inhabited. It is generally accepted that visiting a
property for a short period of time each year may allow a taxpayer
to meet the ordinarily inhabited requirement for that year.
Prior to 1981, each member of a family unit could designate a
property as their principal residence, thus resulting in two
properties being exempt from tax upon the sale. This rule has since
changed and now a single family unit can only designate one
property as a principal residence. This isn't an issue if your
family only owns one home. Where it starts to pose concern is if
your family owns more than one property at the same time during a
taxation year – for example, a house in the city and a
cottage. When it comes time to sell one of the properties, it is
important to determine which property will potentially result in
the largest capital gain and apply the principal residence
exemption on that property.
Another issue to consider is the land adjacent to a principal
residence. This land may be quite substantial when you take into
consideration acreages and home quarters for a farming family. You
are generally allowed to claim up to ½ a hectare of land as
part of their principal residence when it contributes to the
enjoyment and use of the residence. However, more land may be
claimed if you can substantiate a greater amount was needed for the
use and enjoyment of the residence.
Another common concern regarding the principal residence
exemption is what happens if a property owner rents to a tenant. At
this time there will be a change in use of the property. The
property has changed from being ordinarily inhabited by the owner
to a property that is generating rental income. At this point, you
will be deemed to have disposed of the property at the fair market
value and reacquired it at the same fair market value. The
corresponding capital gain that arose on the change in use will be
offset by the principal residence exemption. Bear in mind that when
this property is finally disposed of there may be a capital gain
not sheltered by the principal residence exemption and be fully
taxable. There may be some relief from this taxable capital gain by
filing an election to not have the change in use rules apply. This
election is done by filing a letter with your personal tax return
in the year of disposition. The effect of the election is that a
deemed disposition will not arise on the change in use and the
property will be deemed your principal residence for four years
after the change in use. After the four years is up and if you
continue to rent out the property, the change in use rules will
then apply. It is important that no capital cost allowance be
claimed on the property while the election is in effect.
Furthermore, it may not be wise to file this election if you own a
second property while the election is in effect. This is because
the election deems the first property to be the principal
residence. If the second property grew more in value over the four
years, you may wish to designate the second property as your
While claiming the principal residence exemption may appear
straightforward, there are a few items to consider to ensure you
minimize the tax paid when owning more than one residence.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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The CRA provides new housing rebates for individuals who have purchased or built a new house or have substantially renovated a house or made a major addition to a house who plan on living in it personally or letting a relative live there.
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