Can I still shelter the capital gain from tax when I sell my residence if it is owned by my trust?
If you have a trust that holds your principal residence, be aware that since 2017, the law has changed regarding a trust's eligibility to claim the principal residence exemption. Since this legislative change, fewer types of trusts are eligible than before. More specifically, for a trust to qualify, the beneficiaries of the trust must be restricted to you and your spouse, a disabled child or minor children of a deceased parent.
Why is this suddenly important if the law changed in 2017?
There was no urgency to address this in 2017 because prior to a sale of your principal residence, clients were advised to simply liquidate the trust by allocating the principal residence to themselves, after which they would personally sell the residence and claim the principal residence exemption to shelter the resulting capital gain from tax.
However, in 2024, new property anti-flipping tax rules were legislated and created an urgency. The new anti-flipping rules now require that the capital gain resulting from the sale of your principal residence be treated as fully taxable business income if the seller was owner of the principal residence for less than 12 months. In such a scenario, there would be no possible tax exemption and the profit from the sale could be taxed at up to 53%. This means that liquidating a trust right before the sale of a principal residence is no longer a viable path to using your principal residence exemption, thanks to new anti-flipping rules.
If you are considering a sale of your principal residence currently held in a trust or are advanced in age or have health issues which could impact your ability to remove the residence from the trust well prior to a sale, these rules could have a major impact on your taxation and you should seek legal counsel to ensure optimal access to the principal residence exemption.
First, we must determine if your trust is an eligible trust or a non-eligible trust, for purposes of the exemption.
Should your trust be non-eligible, you should address this issue right away.
Your Options:
1. DISTRIBUTE THE RESIDENCE TO A TRUST BENEFICIARY NOW
Advantages
A. Transfer at Tax cost (trust's acquisition cost) >> No immediate capital gains tax.
B. It is possible for the beneficiary to claim the principal residence exemption when they sell the residence after 365 days (provided they have not used their exemption already on another residence for the relevant years and provided they spent time in the residence for the relevant years).
C. No welcome tax (if distributed to the beneficiary or a related beneficiary who initially put the residence in the trust). However, there would be welcome tax if the trust was the original buyer of the residence. TBD.
D. Protection against circumstance where the beneficiaries of the trust were the only individuals who could benefit from the principal residence exemption on a sale of the residence and those individuals died while the trust owned the property (result being that the heirs or the estate of the deceased could not use the principal residence exemption to shelter the tax upon a liquidation of the estate).
Considerations
A. Anti-flipping rules may apply. You will need to wait 12 months before selling to a third party.
B. Loss of asset protection offered by the trust (the beneficiary becomes the direct owner).
2. SELL THE RESIDENCE TO A THIRD PARTY DIRECTLY FROM THE TRUST
Considerations
A. Capital gains tax and no principal residence exemption since 2017 to shelter the tax.
B. Single welcome tax applicable to the buyer based on current property value.
Evenif you own two residences, this situation could impact you in several ways:
>>The residence held by the trust may have a higher value, and you might prefer to use the exemption for that residence rather than the one you personally own (eg. your chalet).
>> Even if you are not in a hurry to sell, rising property values will lead to higher welcome taxes should they apply to the distribution from your trust. Accordingly, we recommend immediately determining if your trust is eligible or non-eligible and if the latter immediately addressing the issue.
How We Can Help You:
1. Assess the eligibility of your trust.
2. Assess the tax impact of both options.
3. Analyze the application of transitional rules.
4. Evaluate eligibility for transfer tax exemption.
5. If necessary, prepare the documentation to distribute the residence out of your trust and closing the trust.
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.
