Continuing the series of “quick facts” posts (see prior ones about the capital gains exemption and the new financial instruments standards), today is all about the principal residence exemption in Canada.
- Any residence may be designated a principal residence as long as you “ordinarily inhabit” the home. Ordinary inhabitation includes seasonal living such as your cottage and mobile homes such as a trailer or even a boat, as long as you lived on it!
- The designation of principal residence occurs in the year you dispose of it, and of course only one residence can be designated as principal for each specific year of ownership.
- The capital gain, if it cannot be entirely exempted, is prorated for the number of years you owned it and have designated it your principal residence over the total number of years you owned it.
- Deciding which residence to designate as principal depends on the capital gains on all owned residences on a per year basis, and then allocating each year in the optimal way to minimize the recognized gain.
- Starting in 1982, married couples who own more than one residence can only designate one family principal residence, called the “family unit” in the Tax Act.
- You can even designate foreign-owned homes as principal, but could incur foreign taxes upon sale. Naturally, the exemption applies only to your Canadian tax liability!
- If you rent out a home and decide to begin living in it, this “change in use” results in a deemed disposition and could result in a gain. An election exists to defer recognizing this gain until you ultimately sell the home.
- Conversely, if you live in a home and then begin renting it, you can still designate it as your principal residence for a number of years beyond that point. The exact number of years will depend on your specific details.
So to sum up the key points: Only one principal residence each year for the family unit, optimal tax planning requires estimating or calculating the gain per year for each residence owned, and a change in use has special rules that could result in a gain.
This is a very basic look at a complex section of the Tax Act. As with any general tax discussion, your personal situation is unique and requires the expertise of a Chartered Accountant. If you need a CA, please contact me and I will be happy to help you find one in your area!