Selling Homes Tax-Free in Canada?

Disposing of Canadian Real Estate
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Don’t be Flippin’ Crazy!

Many older homeowners in Canada rely on the equity they’ve built up over the years to help fund their retirements. This is made all the more possible due to a sale’s surprisingly generous tax-free status from Canada’s principal residence exemption. Of course, many simply aim to take advantage of this tax opportunity for other reasons, such as “flipping” properties.

It is important to note, however, that this exemption applies only to one’s principal residence. Though it might seem to be straight forward on the face of it, in reality it is not so simple to determine what might count as a principal residence.

It becomes less than a walk in the park when one considers the many possibilities in which such a sale might not make the cut. A case in point are those who think getting into flipping properties can earn them a tidy, tax-free profit. Should the sale result in zero taxes then the possibility of coming out ahead is seemingly in the bag. The concept of buying a home, living there for a while and putting some sweat equity into it to achieve a profitable sale is for some a perfectly reasonable proposition. These folks have no qualms about claiming tax free status after they’ve spilt blood, sweat and tears turning a shack into a showplace. They understandably feel strongly that the one place they’ve lived in while also enduring what was in effect a construction zone should certainly qualify as a principal residence via the principal residence exemption. Many would assert, at the least, that the profit should be taxed at capital gain rates and not as business income. Well, hit the brakes as all this, unfortunately, is not the case.

If you are intending to flip a property for a profit and think you can enjoy the principal residence exemption bonus there are some things to keep in mind. First off, the property cannot be considered as business inventory and must qualify as a capital property. In other words, if the home is bought purely to flip, it will not meet the standard of being a capital property. For example, a rental property would be considered a capital property since you seek to earn income from the use of it as opposed to turning a profit from selling it. Secondly, as already mentioned, the dwelling must also be your primary residence in which you live in order for it to qualify for the PRE.

Here are the legal questions that would be referenced when attempting to determine the principal residence exemption  eligibility: What is the nature of the property being sold and how long has the individual owned it?

What is the frequency of similar transactions made by the taxpayer over the years? What is the level of work and expense put into the property to make it more attractive to potential buyers? Also, what are the circumstances around the sale of the property and what was the taxpayer’s intention in buying the property in the first place?

In light of all this the courts have created what is called the doctrine of “secondary intention.” In other words, they will put a lot of weight on what was the main intention in acquiring the property. Under this doctrine it may mean that a court would rule that the profit is not eligible for the principal residence exemption and should even be taxed as business income rather than as a capital gain. Oops…

So, in conclusion, if you are betting on the principal residence exemption to assist you in making a profit after buying a property to flip, you might want to think again. You would be wise to investigate all the aforementioned criteria that the courts and the CRA will consider when determining how you should be taxed. If you still think you can be a TV home improvement reality star, go for it. But if you’re counting on a tax break to help you along the way to stardom, you best forget about it.

Eric La CaraManaging Partner and Tax Practice manager for Capital Tax in Vancouver and Tokyo. Eric is a U.S. and Japan Personal & Corporate tax specialist with more than 15 years of experience in the area of cross-border structuring and taxation. Eric is charged with developing Capital Tax overall operations and strategic direction using the business and technical skills he has acquired during his professional career in Asia.