With hordes of city-dwellers fleeing cities (and Covid-19) for rural sanctity in recent years, country estates have been staples. But you could face a big bill if you don’t sell with a tax strategy.
If you’re a long-time cottage owner amazed by a dramatic increase in your property’s value, you might be considering cashing out. The incentive could be even greater if it is considered a principal residence and can therefore be sold tax-free.
Use the principal residence exemption
For most Canadians, home ownership offers a huge tax break. “The ability to claim the principal residence exemption is the biggest tax benefit available to Canadian taxpayers,” said Aaron Gillespie, corporate tax partner at KPMG in Canada. “Unlike profits from stocks and other capital investments, no capital gains tax is payable when you sell your principal residence – assuming you have owned it and still have it. used as your home.” The house must have been “habitually inhabited” (as the wording of the Income Tax Act) by the owner or a family member. There is no requirement to live in the house full time or even the majority of the time. Thus, any cottage used regularly by the family is eligible.
But things can get tricky if you own more than one house, usually a townhouse and a cottage. And while a cottage you use regularly may indeed qualify as a principal residence, if it’s on a large lot, only part of the property may qualify.
In recent years, the Canada Revenue Agency has increased vigilance over the use of the exemption, requiring that a sale be reported on the seller’s tax returns. Prior to the 2016 tax year, the sale of property that qualified for the exemption for the full term of ownership was not reported. Additionally, to limit abuse of the exemption, the 2022 federal budget proposed denying use of the exemption on a home sold within one year of its acquisition, and instead requiring the profit to be reported. as business income and taxed accordingly (there are exceptions in certain personal cases such as marriage breakdown and death).
Note that capital gains tax did not come into effect until January 1, 1972, so rulings regarding the use of the principal residence exemption only apply to value gains after 1971 A cottage seller must also confirm whether they have used all or part of a $100,000 general capital gains exemption that was available in 1994, which would reduce the capital gain on the property.
Change the designation of a property
If you are likely to sell both a townhouse and a cottage in the foreseeable future, it makes sense to determine which sale will generate the largest gain (per year of ownership) and designate it as your principal residence, in the as long as it meets the criteria. However, you are allowed to claim a different qualifying home for a given year, as long as only one property is identified and ultimately claimed as such for that year.
“For example, let’s say you’ve owned your house in town for 30 years and you’ve also owned a cottage for 20 years,” says Gillespie of KPMG. “When the cottage has a higher average annual gain, you can claim the principal residence exemption on the cottage for 20 years of ownership and shelter the entire tax gain. At the same time, you will be able to retain the possibility of claiming the exemption on the house for 10 years of ownership thus housing 1/3rd gain on your house in town. If you sell your cottage and keep the townhouse, both houses can be claimed under the exemption for the year of the sale, due to a specific element of the rules helping with those “transition” years. Gillespie said. You don’t make a designation until it’s time to report the sale of a principal residence on your tax return (see “What to do at tax time” below).
One main residence per family
Before 1982, both spouses (or a parent and a minor child) could each have a property designated as their principal residence. Thus, the capital gains of two dwellings owned up to the end of 1981 can be protected by separate exemptions for each. For example, the husband could use the exemption for gains on the house in town while the wife does for the cottage. From 1982, only one person can apply for the exemption, so you will need to select one house or the other for tax protection, according to the rules described above.
Half hectare limit
Normally, only half an hectare of land surrounding the house is considered part of a principal residence property, and therefore sheltered from capital gains tax on sale. But there is one key exception: additional adjacent land can be included as long as the seller can prove that this land was necessary for the use and enjoyment of the residence. (“Pleasure” does not include recreational use.)
Criteria that may extend inclusion beyond half a hectare could be municipal lot size regulations, such as minimum dimensions or area, or a restriction on subdivision or severance. Arguments in favor of exceeding the half hectare limit could also include access (the driveway crosses this land), the location of a well or other essential infrastructure, or problems of privacy (proximity to neighboring lots).
These factors can only apply to the years in which they applied. For example, if a lot size bylaw had only been in place for 10 years, it would only provide an exception to the half-hectare rule during that time.
Principal residence outside of Canada
A property does not have to be located in Canada to be considered a principal residence. “This opens up the possibility for owners to claim the exemption on a vacation property located in a foreign country,” says Gillespie. In such a case, an owner should be aware of the obligation for Canadian taxpayers to report their worldwide income on their Canadian tax return while also being aware of the specific tax obligations in the foreign jurisdiction, such as the obligation to pay tax in this country. , he says.
What to do at tax time
If you sold a property in 2022 for which you are claiming the principal residence exemption, when you file your taxes early next year, you will need to indicate that you sold a principal residence to the page 2 of annex 3, Capital gains. You must then complete form T2091(IND), Designation of a property as a principal residence by an individual (other than a personal trust). It is on this last form that you include the financial details of the transaction, including the specific years in which the property is designated as a principal residence.