Dear David,

My wife and I plan to sell our principal home and move into our rental property, which we will eventually tear down and rebuild. What do we need to know about capital gains on the income property, and should we have an appraisal done before we tear it down? – GAINS AND LOSSES

DEAR GAINS: When you sell your principal residence, it is exempt from capital gains tax if the property has been your primary home for as long as you have owned it. When you sell your primary home, you must report the sale to the Canada Revenue Agency (CRA) that year, and must also designate the home as your principal residence on your income tax return. 

When you move into your rental property and make it your primary home, you change the use of the building and things get more complex. If you designate an income property as your principal residence, the CRA assumes you sold the property at current fair market value, then immediately bought it back at the same price. In practical terms, you are considered to have realized a capital gain on the income property in the period between when you purchased it, and when you stopped renting it out.

It’s important that you have the property appraised by a professional. The appraisal will pinpoint the fair market value of the property at the time it changed use, and will provide a basis for capital gain calculations moving forward. For tax and record-keeping purposes, it’s important to have your appraiser assess the land and the building separately.

A capital gain will be created when you move into your rental property. The taxable portion of the gain is fifty percent of the difference between the original purchase price of the home (plus qualifying expenses like legal fees, commissions, or capital improvements) and the current fair market value of the property when it changed use.  

Under certain provisions of the Income Tax Act, you may be able to defer the capital gain that is typically triggered by a property’s change in use by making an “election” (a statement) to the CRA. This deferral is only available if you have not previously claimed depreciation (Capital Cost Allowance) on the property.

If an election is made properly, no capital gains tax is payable when you move into your income property. Instead, tax on the accrued gains can be deferred until you eventually sell the home. 

PRO TIP: Before changing the use of a building, do your homework. Talk to your accountant, lawyer, and even the city to simplify what can be a complex situation. When it comes to the CRA, there is no such thing as too much documentation. Keep detailed records of your appraisal, renovation costs, and all correspondence, to protect yourself if there are any questions later. #Advice #AskDavid #TheNegotiator 

David is a top-selling Broker in Kitchener-Waterloo Region. He works personally with you when selling or buying your home. Moving? Get it right. Ask David today! Call or text 519-577-1212.