When you sell your principal residence, the gain is probably tax-free, under the Principal Residence Exemption (PRE).
But what if you sell your cottage? Or farmhouse? Or park model trailer located in Arizona?
With the rapid appreciation in housing prices over the last several years, these questions have become critical, and we will answer them today.
However, let’s first look at some brand-new rules that came into effect with your upcoming 2016 tax filing.
New for 2016
The big change this year and for all future years is that taxpayers will have to report any disposition of a principal residence in order to claim the exemption.
Here are the CRA instructions from their website:
“You will complete Schedule 3 and file it with your T1 Income Tax and Benefit Return for the year you sell the property. If the property was your principal residence for every year that you owned it, you will make the principal residence designation in your Schedule 3. In this case, the year of acquisition, proceeds of disposition and the description of the property are the information that will have to be reported. Schedule 3 will be modified accordingly.
“Form T2091 (or Form T1255) will still be required for the designation in the case the property was not your principal residence for all of the years that you owned it.”
This will be required for all sales on or after January 1, 2016.
Other PRE rules continue
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 claiming the exemption.
Cottages, ski chalets, 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, but remember, each couple can only claim one property for any particular time period.
Raw land does not qualify, until a residence is constructed on it. Large properties and farm houses require specific advice.
If you own one residence only and sell it, you will now claim it on Schedule 3, and the exemption should be assured.
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 taxable half of that gain, while retaining the exemption for a second residence, which had a much larger gain.
You would also use the T2091 if not all of your gain on a sale is covered by the PRE.
Only one PRE is claimable by each married or common law couple. The exception is for years of ownership up to 1982, when each spouse was allowed a principal residence.
Common law spouses can claim two exemptions for years up to (and including) 1993, when CRA started to include them in the definition of “spouse”.
Further, same sex couples can claim two exemptions up to 2001, when they became “spouses” under the tax rules.
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.
New restrictions on trusts for 2016
A trust that claims the PRE (in a situation where beneficiaries of the trust normally inhabit the dwelling) must file Form T1079, as before. However, the PRE will now be restricted to certain types of trusts, and not allowed for discretionary trusts, including those designed to protect spendthrift children, unless that beneficiary qualifies for the Disability Tax Credit.
If you have a complicated situation, like multiple properties or issues with rentals, I hope you are getting professional accounting advice. There are some wrinkles that can help you increase your PRE claim by a year (but also some pitfalls), so that help can be extremely valuable.
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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 Certified Financial Planner and senior 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.