All About Estates

Tax on principal residence? How to plan for a change of use

No, the government did not eliminate or claw back the principal residence exemption in the 2021 Budget, as had been speculated. Yet, there is a circumstance in which a taxpayer could face an unexpected tax burden in respect of a principal residence: when there is a change in use of a property. AS an executor, the expectation of a tax-free receipt on the sale of what was the deceased’s home may not materialize.

recent article outlines the consequences and ways to mitigate the tax debt when an individual converts a property from a principal residence to another use, and from another use to a principal residence. If a taxpayer moves out of a house without selling it, and then rents the house, the taxpayer is deemed to have sold the property at fair market value at the time of the change in use. If the taxpayer can use the principal residence to shelter the gain, there are no immediate tax consequences. If the taxpayer owns a second property and intends to use the principal residence exemption for the second property, the gain from the deemed sale on the first property would be taxable. However, subsection 45(2) of the Income Tax Act allows the taxpayer to elect to defer the gain on the property until the year of actual disposition (rather than the deemed disposition at the time of the change in use).

If a taxpayer used a property as a rental property and then moves into the property, the taxpayer is deemed to have sold the property at fair market value at the time of the change in use and the principal residence exemption is not available to shelter the gain. However, an election under subsection 45(3) is available to allow the taxpayer to defer the gain on the property until the actual year of disposition.

Executors beware as you may have to deal with the principal residence in the course of administering an estate.The election under subsection 45(2) must be filed in the taxpayer’s tax return for the year in which the change occurred. The election under subsection 45(3) must be filed in the taxpayer’s tax return for the year in which the property is ultimately disposed of (or earlier if CRA issues a formal demand for the election).

About Derek de Gannes
Derek A. de Gannes: Senior Director, Private Client Services of RSM Canada. RSM Canada is committed to the highest level of integrity, quality and professionalism and provides clients with solutions in the area of Audit, Tax and Transaction Services. Email: derek.degannes@rsmcanada.com

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