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In 2016, the CRA changed its administrative policy relating to the reporting of the principal residence exemption. This has made reporting the disposition or deemed disposition of a principal residence more important in recent years.
For 2016 and later tax years, CRA will only allow the principal residence exemption if the sale is reported and a designation of a principal residence is made in the taxpayer’s return for the relevant taxation year. If the disposition is not reported or the taxpayer forgets to make the designation, the full amount of the capital gain will be taxable.
The due date for reporting the sale of a principal residence and designating the property as a principal residence is the regular due date of the individual’s T1 Income Tax and Benefit Return; April 30 for most individuals and June 15 for individuals with a sole proprietorship.
If you are uncertain if your home qualifies as a principal residence please refer to our blog post, “How Does Principal Residence Exemption Work?” for a general overview, or contact the Manning Elliott Tax Team today by submitting a contact form inquiry.
Potential Deemed Dispositions
The Income Tax Act deems a taxpayer to have disposed of, and immediately reacquired, a property when the taxpayer converts a property from an income-earning property to personal use property or vice versa. For example, when a taxpayer moves out of their principal residence and begins to rent it out, they can be deemed to have disposed of their former principal residence at fair market value.
Other scenarios which may result in a disposition or a deemed disposition of a residence include but are not limited to the following:
- Moving into a property which used to be a rental property and occupy it as your principal residence;
- Demolishing a house to construct a new home;
- Granting of an easement;
- The gift of a property (in part or in whole);
- Proceeds received from the expropriated property;
- Insurance proceeds from a flood or fire; and
- Proceeds received from the cancellation of a leasehold interest in a property
Late Filing the Principal Residence Exemption
If you forgot or missed designating your property as a principal residence in the year of the sale, you can ask the CRA to amend your income tax and benefit return for that year. CRA is able to accept a late-filed designation in certain circumstances but a late filing penalty will apply. The penalty is equal to the lesser of:
- $8,000; or
- $100 for each complete month from the original due date the amendment request was made to CRA
45(2) Election to Defer Capital Gain on Change in Use from Principal Residence to Income-Producing Property
If a taxpayer begins using their principal residence for an income-earning purpose, subsection 45(2) allows the taxpayer to elect out being deemed to have disposed of the property at fair market value and reacquire it immediately thereafter at the same amount.
By filing a subsection 45(2) election, the taxpayer would be deemed to not have begun using the property for income earning purposes until the taxpayer disposes of the property or rescinds the subsection 45(2) election. The 45(2) election restricts the taxpayer from being able to deduct any capital cost allowance from rental income.
The 45(2) election is due at the same time as the T1 Income Tax and Benefit Return for the year in which the deemed disposition would have occurred.
For example, if a taxpayer moves out of their principal residence in 2018 and began renting it out in 2018, then absent the 45(2) election (due April 30, 2019, or June 15, 2019) the taxpayer would be deemed to have disposed of the property in 2018 for the property’s fair market value at the time property was rented out.
45(2) Election – Why use it?
Principal residence status can be extended up to 4 years while the property is rented out if this election is made. The disposition can be delayed until the election is rescinded or property disposed of. If you think you may benefit from making this 45(2) election talk to a member of the Manning Elliott Tax Team or send us a contact form inquiry.
45(2) Election – I forgot to file it!
CRA may accept a late-filed 45(2) election as long as no capital cost allowance has been claimed for the rental property. Unfortunately, the acceptance of a late-filed 45(2) election is at CRA’s discretion. As such, it is important that any potentially deemed dispositions are identified in order to report the disposition of the property and make the designation as a principal residence or to file the 45(2) election before the filing due date.
If a taxpayer owns multiple properties, CRA may not accept a late-filed 45(2) election as it could be construed as retroactive tax planning.
45(3) Election to Defer Capital Gain on Change in Use of a Property from Income-Producing to Principal Residence
If a taxpayer has changed the use of a property from income-producing (e.g. rental property) to a principal residence, subsection 45(3) provides an election to avoid the deemed disposition on the change in use. The filing due date for this election is the filing-due date for the taxation year in which the property is ultimately disposed of or 90 days after the Minister requests the election be filed. A subsection 45(3) election is only applicable where capital cost allowance has not been claimed on the property in question.
45(3) Election – Why use it?
This allows the taxpayer to defer the capital gains accrued while the property was rented out until it is ultimately disposed of. The 45(3) election can allow the taxpayer to look back 4 years when designating a property as their principal residence. It is important to note that this 45(3) election is only available if no capital cost allowance is claimed on the rental property.
Budget 2019 Changes
Before March 19, 2019, subsection 45(2) and subsection 45(3) elections were only available when an entire property had a change in use. Budget 2019 modifies the wording of subsections 45(2) and 45(3) such that these elections can now apply to the deemed disposition that may arise on the change in the use of part of a property.
If you still have questions about the Principal Residence Exemption, please contact a member of the Manning Elliott Tax Team today by submitting a contact form inquiry.
This content is believed to be accurate as of the date of posting. Tax laws are complex and are subject to frequent change. Professional advice should be sought before implementing any tax planning. Manning Elliott LLP cannot accept any liability for the tax consequences that may result from acting based on the information contained therein.