In years of advising clients who own cottages and vacation properties as well as their houses, we have done a lot of research on the Principal Residence Exemption (“PRE”). Proper understanding of sometimes complex rules can save thousands of tax dollars when a property is sold.
Failure to understand or follow the rules can render you in hot water with the CRA.
The PRE allows the tax-free sale of a residential property that is “ordinarily inhabited” by the taxpayer, spouse (or former spouse), common law partner or children of the taxpayer who is claiming the exemption. A trust or estate that owns such a property can also claim the PRE. However, the exemption does not apply to properties that are being rented out.
If you sell your cottage, can you claim that as your PR? Yes, you can. Even a mobile home or houseboat can qualify, as long as you have slept there, basically. There is no time limit imposed on how often it was “ordinarily inhabited”. Foreign vacation property may also be claimed.
Raw land does not qualify, until a residence is constructed on it. Large properties and farm houses require specific advice, as there are specific rules that apply.
If you own one residence only and sell it, you do not have to claim that sale on your tax return. The PRE claim is assumed.
However, if for some reason you do NOT want to claim the exemption on a particular sale, then you must file form T2091 (IND) to account for the capital gain. This would be the case, for example, if you sold a house with a small gain, and wanted pay the tax on the 50% of gains that are included in income, while retaining the PR exemption for your cottage, which had a much larger gain.
Be sure to use this form in such a situation, or you will lose the right to make the claim for all of the years you owned the property that is sold.
You would also use the T2091 if not all of your gain on a sale is covered by the PRE, because, for example, you had owned a second property for some of that time, sold it and claimed the PRE for the years of ownership of that other property.
Only one PRE is claimable by each married or common law couple, with two exceptions. For years of ownership prior to 1982, there are two PRE's allowed, because back then the tax rules allowed for each spouse to claim a principal residence. The other exception is that common law spouses can claim two exemptions for years up to (and including) 1993. It was only after this that CRA changed the definition of “spouse” to include folks living common law.
Thanks to a slower change to the spouse definition, same sex couples can claim two exemptions up to 2001, when they became “spouses” under the tax rules.
People who used a portion of their house as a business can claim the PRE, as long as there is no separate area set aside for the business, and no Capital Cost Allowance was claimed on previous tax returns.
For a duplex or triplex which is partly rented, the exemption can still be claimed on the residential (non-rental) portion, when sold.
If you move into a property that you have been previously renting out, or if you start to rent out your principal residence, then you have a “change of use” and a deemed disposition for tax purposes. In the first example, that would mean paying tax on half the gain at the time of change.
However, an election can be filed to defer the deemed disposition and maintain the PR for another four years, if certain criteria are met. An advantage would be to defer paying tax until you actually sold the property, for example. The election “form” is simply a letter. As with any non-standard application of the PRE, be sure to get professional accounting advice.
The principal residence exemption makes the gain on most people’s house tax free, whether they sell it while they are alive, or if sold by their executors after they pass away. If you own one property with none of the complications mentioned here, then you have nothing to worry about.
If you own multiple properties, or have any of these other situations, then it’s best to get good advice before selling any of them. At the very least, proper application of the PRE calculation formula (available at www.cra-arc.gc.ca/ and search for form T2091) will net you an extra year of exemption. Your saving from proper planning may be much more substantial.
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Dollars and Sense is meant as an introduction to this topic and should not in any way be construed as a replacement for personalized professional advice.
Please consult legal, tax, insurance and investment experts for advice on your unique situation.
David Christianson, BA, CFP, R.F.P., TEP, CIM is a financial planner and advisor with Christianson Wealth Advisors, a Vice President with National Bank Financial Wealth Management, and author of the book Managing the Bull, A No-Nonsense Guide to Personal Finance.