Likely the biggest investment most Canadians have is their home.
The term investment to describe a person’s home is not used casually since Canadians enjoy tax free gains upon the sale of their home, so the original value of the home plus any gain could significantly contribute to total net worth.
Of course where there is an attractive investment opportunity, rules and regulations tend to follow.
Simply stated, a person may claim their home as their “principal residence” and take advantage of the capital gains tax exemption when certain conditions are met.
First, a principal residence must be an “owned” house, duplex or similar, condo, co-op unit, trailer, or houseboat.
Second, a principal residence designation can only be made if a person “ordinarily inhabits” the home.
Third, the primary residence designation is only available to a Canadian resident person, not a corporation. Fourth, a person or legal couple can designate only one principal residence at any one time.
And of course where rules and regulations exist, exceptions tend to exist.
The “ordinarily inhabits” rule. Despite the term “ordinarily” implying normally, regularly, and that kind of occurrence, the Tax Court of Canada has sided with taxpayers who have argued that “ordinarily inhabits” includes living in a “home” at the lake for just several weeks in the summer, providing they don’t have another “owned” home in Canada.
Lots of other details have to be met, but this is the gist.
The “resident of Canada” rule. If someone owns a home outside of Canada but is determined to be a “deemed” resident of Canada by Canada Revenue Agency (CRA) usually for employment reasons, that person can designate their foreign located home as their principal residence, provided they don’t have another “owned” home in Canada.
CRA also has rules to shut down abuse of the principal residence exemption.
For those who buy or build a home, live in it, sell shortly afterward, and repeat this process regularly, CRA may determine that their “owned” home is actually not capital property but rather “inventory” for resale and as such the capital gains exemption is not allowed.
In fact, the profit on the sale of the property is not even considered as typical capital gains that requires just 50 per cent included as taxable income. Instead CRA defines the gain as business profit that requires 100 per cent of the gain to be included as taxable income.
To aid CRA in identifying these so called “house flippers”, CRA recently began requiring the submission of Schedule T2091 within a T1 tax return for anyone selling what is claimed to be a principal residence.
A more sophisticated house flipping tactic involves a person buying a home before it’s actually constructed.
After the protracted construction period, the person lives in it briefly and then sells it. The hope being that since their name has been “on title” as owner during the construction phase, sometimes as long as five years, this long time frame will negate CRA’s attention and investigation when they claim it as a “principal residence” on Schedule T2091.
The really brave players at this game concurrently own several pre-construction properties and roll through them claiming each as a “principal residence” as each is completed.
Who says tax planning is borrowing?
Ron Clarke has his MBA and is owner of JBS Business Services in Trail, providing accounting and tax services.