Ask a tax pro: what do I need to know when selling an investment property?

Ask a tax pro: what do I need to know when selling an investment property?

Tax season is upon us (yay), and if you’re thinking about investing in real estate or putting your investment property on the market, there are a number of tax implications to think about. We talked to CPA Nicholas Carriere from Chaggares & Bonhomme CPAs about the tax information you need to know as a real estate investor, and asked him to shed some light on a few of the most common tax questions property owners ask.

Q: Do I have to pay tax when I sell my house or condo?

A: That depends on one key thing: whether you're selling your principal residence or an additional property. A principal residence (also known as a primary or main residence) is the home you live in most of the time. You can only deem one residence as your principal residence for a tax year.

When you sell a principal residence, you don't get taxed on the capital gains (the amount you've earned as the property has appreciated in value over time). However, you are still required to report the sale on your personal taxes in the year of the sale and indicate that it was your principal residence. If you own multiple properties, you can choose which one to designate as your principal residence: only one property can be sheltered for a specific tax year.

Selling a property that ISN’T your principal residence – whether that's a vacation home, a house you rent out or a condo you bought for a family member to live in – is a whole different ball game. For any property beyond your principal residence, you will be taxed on 50% of your capital gains when you sell.

How much tax will I end up paying on my capital gains?

It depends on your tax bracket. 50% of the capital gain gets added to your income (taxable capital gain) in the year you sold the property, which is likely to push you into a higher tax bracket than you’d normally be in. Please note that just because you are pushed into a higher bracket does not mean ALL of your income is taxed at that rate: you still get to use all of the lower tax rates for the income in those ranges.

You may also want to think about how a large taxable capital gain could affect any benefits that are based on your income. A large addition to your income could reduce your child or pension benefits.

To minimize how much you pay, be sure to claim any improvements that have added to the total cost of the property. If, for example, you bought a backyard shed or did a kitchen reno, those costs can be added to the cost of the home and will help reduce the capital gain. Let’s say you bought a place for $750K. You put in $250K worth of renos, then sold it for $1.25M. Because of those renos, your capital gains will only be $250K, and you would be taxed on $125K (50% of the total gain gets taxed) at your marginal tax rate.

Should I form a corporation to invest in real estate?

That totally depends on you. While it may be beneficial to incorporate for liability reasons, there's no real advantage from a tax perspective unless you already own a corporation and are earning income within it.

Are there any situations in which I WOULDN’T get a capital gains exemption on my principal residence?

If you’re a flipper who buys, renovates and sells properties quickly, you may not be exempt from those taxes. According to the CRA, you have to show that you intended to live in the property, usually with the address on your driver’s license or utility bills, and that you ended up selling the property due to unforeseen circumstances (you got an offer you couldn't refuse, your family or work life changed.)

What if I have to relocate for work and can’t live in my home for a couple of years?

This is an exception. If you have to move to Calgary or Hong Kong for your job and don't want to sell your place in Toronto, you can rent it out but still keep it designated as your principal residence for up to four years – even if you buy a place in your new location. A good accountant will know the drill and advise you on the ins and outs.

If I can't charge enough rent to cover my expenses – or find a tenant at all – can I report it as a loss?

If you have no tenants (and have been actively searching for new ones) or you're legitimately losing money on a rental, yes, that’s considered a loss and it gets deducted from your income. But if you're showing huge losses year-over-year, that will send a red flag to the CRA, who will want to know why you’re not raising your rent or trying harder to find a tenant.

I only have a principal residence, but I rent part of it out. Does that impact my tax situation?

If you're just renting out a room in your house or condo, that won’t impact your property’s designation as a principal residence or your ability to shelter your capital gains when you sell (though you’re still expected to report the rental income).

However, if you’re renting out a self-contained apartment in your house, this can actually reduce your primary residence exemption. For example, if the unit occupies 30% of the house (say the entire basement), you’ll have to pay tax on 30% of your capital gains. Only 70% will be exempt.

What if I sell my principal residence and move into my investment property?

You’ll be on the hook for the capital gains accrued up until the time you moved in. That's the “change in use” rule and will result in a “deemed disposition” of the property. (In the eyes of the CRA, you will have disposed of the property, even though no sale actually took place.)

You’ll need to get an assessment of the property’s value that year and report it on your return. The good news is that you can defer paying those taxes until you sell, and you’ll be taxed at your tax bracket rate at the time of sale, not at the time of change of use.

Let’s say you purchased your home in 2002, an investment condo in 2012, then sold your home in 2022. You can designate which years from 2002 to 2022 you want to claim your home as your principal residence. Assuming you do claim it all as your principal residence for those years, no tax will be owed after the sale.

However, when you sell the condo in 2027 and there is a gain on the sale, you won’t be able to fully shelter that gain – even if it was the only property you’ve owned since selling your initial home in 2022. Despite the fact that you owned the condo from 2012 to 2027, you’ve already used a principal residence claim from 2002-2022, so you can only designate it as your principal residence from 2022-2027. Since you had the condo for 15 years, and only 5 years are sheltered, you’ll owe tax on 66% (10 out of the 15 years) of the taxable capital gain.

Are you thinking about jumping into the market as a real estate investor?

Many of our agents specialize in working with investors, and can give you some great insights into properties (condo or detached) that can get you the best return for your dollar in this market. Connect with a property.ca agent today!

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