Your principal residence is tax exempt
We all love our homes. They are after all, a reflection of our personalities and tastes and where we feel most comfortable. In Canada, the expression “A Man’s/Woman’s Home is his/her Castle” has never been truer, as the cost of a basic home has seemingly become equivalent to the cost of a castle twenty-five years ago.
The blood, sweat and tears expended and the pure dollars spent purchasing, repairing and renovating our homes generally make our homes our single biggest purchase/investment. Thus, we cherish the fact that the gain on the sale of our home is tax-free (subject to the discussion below). Many Canadians rely on the equity accrued in their homes to partially or fully fund their retirements.
The mechanism for sheltering the capital gain realized on the sale of a home from personal tax is the “principal residence exemption” (“PRE”). The PRE is a formula provided in the Income Tax Act that if fully understood, may be used to gain a tax advantage in certain situations.
The actual calculation to determine your principal residence exemption is equal to:
The capital gain on the sale of your home
The number of years you have lived in your home (i.e. designated the home as your principal residence) plus 1
The number of years you have owned the property
If you have lived in your house from the time you purchased it to the date your sell it, the numerator will always be greater than the denominator by one year. If you have moved from one principal residence to another principal residence, the extra one year will be like a sixth toe, essentially useless.
But what if the housing market is not co-operating and subsequent to you purchasing and moving into your new house you cannot find a buyer for your old home? You may be forced to rent out your old home for a few years. Technically, under Canadian income tax rules the change from a principal residence to a rental property will trigger a deemed disposition of your house at its current fair market value (typically the appraised value). If you have always lived in your original house, the deemed disposition will not create an income tax liability due to the application of the PRE. However, you will be deemed to have reacquired your old home at a cost equal to the appraised value at the date you changed the use and any future increase or decrease in value will be a capital gain/loss when that property is sold.
A taxpayer who finds him or herself in the situation described above may be permitted to file an election known as a “45(2) election”. If filed, this election would
prevent an immediate deemed disposition of your original home and allows you to treat the original house as your principal residence for up to four years as long as you don’t claim depreciation and you are resident in Canada, even though the property is being rented and you are not living in the property.
So, if you moved out and rented the original house for five years, that dangling one year in the formula above would prove useful, as you could claim the original house as your principal residence for the four years per the 45(2) election and the one extra year per the formula. Any gains realized on the sale of your original home during those years would be sheltered from tax.
The downside to utilizing the 45(2) election is that for the four years the original house is claimed as your principal residence, your new house cannot also be claimed as a principal residence, causing your new home to be partially taxable when eventually sold.
It should be noted that if you file a 45(2) election and rent the original house for more than four years, the election would continue to defer the deemed disposition of the property, however, when the house is eventually sold, a portion of the gain on the house would be taxable in the year you actually sold your house.
Under certain conditions where a move is for employment reasons and the new home is at least 40km from your original residence and you subsequently move back into the home the 45(2) election will not be required and your old home will continue to qualify as a principal residence.
You can only have one principal residence per family, so where you own a cottage and a house, you may have to play with the numbers to see which property has the largest gain per year. You would then designate as your PR the property which has the larger gain per year for the required number of years to fully offset the gain on that property. However, you would still have that dangling one year to use on the other property.
The principal residence exemption is typically an after-thought for most Canadians, buy a house, live in it, sell it and claim the exemption. However, as noted above, it sometimes can get very complicated to determine how to effectively use the exemption. In certain circumstances, care must taken to ensure that the PRE is fully maximized.
Where a reader owns more than one home for any of the reasons noted above, they are strongly encouraged to seek professional advice in dealing with this issue as there are numerous pitfalls and issues as noted above and the advice above in general in nature.
Thanks Jim for letting a guest write this interesting and enlightening article.
Love the site and really enjoyed your article on IPPs within an incorporated company.
My question is about the principal residence. My wife and i have a condo (which was hers before we got married). Is there a way to set a date (ie – when she officially moved into my home and we started renting her condo) and establish her tax free capital gain? Essentially – only paying tax on further appreciation beyond that milestone date?
Since I wrote the guest blog, Jim has asked me to answer you.
When your wife changed her property from a principal residence to a rental property she triggered a deemed disposition of her condo at its current fair market value (typically the appraised value). The date is a question of fact, but it would probably be the date she started renting the property rather than the date she moved into your home. It is somewhat a moot point if those dates are close and in the same year. Assuming she always lived in the condo and you were not living common-law(if so, you can only designate one principal residence for those years)the deemed disposition “establishes” her tax free capital gain (principal residence exemption), since she did not elect otherwise under section 45(2).
The value at the time she moved out and rented the condo also establishes the new cost of the condo going forward. Thus, in your words, she will only pay tax on further appreciation from the milestone date. You should obtain an appraisal of the condo at the date she started renting it, as that forms the new cost.
Can a person claim their cottage as the principal residence for 6 months of the year. In other words switching their principal residence from the house to the cottage every 6 months?
change your title: You mean principal residence, not principle
What happens if a parent and multiple adult children are on title for a personal residence, but only the parent is living in the house… When the house is sold, do the children have to pay capital gains tax?
Thanks, J. Gonzalez
In Canada, you are only allowed one principal residence. If the children are not living in the home, then their share does not apply for the principal residence exemption.
Check out this article:
I have a question re my mother’s condo. She purchased this condo quite a while ago (>15 years). For the last few years she has been living in a senior’s facility and the condo has been sitting empty. It has NOT been occupied at any time since show moved out, and thus has NOT been generating any income. My question is how are these last few years treated? I.e., for tax purposes is the condo considered to be her principle residence for the last few years or not?
Basic Definition of a Principal Residence
The basic definition of a principal residence, as outlined in section 54 of the Income Tax Act (ITA), is any housing unit owned by the taxpayer, which he or she, or someone related to that taxpayer, ordinarily inhabited during a particular year, and is designated as a principal residence at the time of sale. The taxpayer can designate the years he /she resided in the housing unit for an exemption of capital gains under paragraph 40(2)(b) of the ITA.
I am interested in buying a little home in Texas. If I am a renter in Canada, would I be able to claim my Canadian rental home as my principal residence, while actually owning a place in the States? I’d be splitting my time between the places.
My parents bought a house 15 years ago. They lived there for about 2 years. Then, my dad started his job as a property manager in an rental apartment. He is required to live in the apartment (with discount on rent). My dad and my mom moved to the apartment due to the nature of his job. Their house was rented out for about 13 years. (Rental incomes were declared in their tax returns). My dad is going to retire next year. My parents are expected to move back to their house. I am just wondering if they are qualified for the Principal Residence Exemption. Thank you.
What form to be prepared and submitted with the tax return for the exempt principal residence? Thank you.
We moved from our principal residence at Toronto in 2005 to Ottawa and lived in rental home till 2011 and claimed our principal residence as a rental property. in 2011 we bought a home in ottawa as principal residence.
But again now we sold our ottawa home and wants to move back to toronto in our rental property.
My question is how it will effect my taxation and how long I should live in my rental property to claim as my principal residence again. I am planning to live in my rental property for atleast one year before we sell and buy another home in Toronto
Maybe you can help – nobody else has been able to assess my situation. Bought a house in Toronto in Nov2004 that came with a basement rental suite – I lived upstairs. Moved to Calgary in Dec2006 for a job, so rented out the upstairs instead and kept the basement suite for myself since I am in Toronto to visit my kids (once or twice a month). I have not claimed any other property as my PR. Could I claim the Toronto house as my PR? The only reason I have kept the house is to have a place to visit my kids – so is the income ancillary? (no structure changes and no CCA). I did not file a 45(2). Even if not a PR under the ‘retains its nature’ clauses for partial changes in use, does the moving clause help me? Or would I have to move back into the house? If you could help me that would be great – no one else has been able to!
My husband and I own a Condo which is registered in his name.We also own a summer home which is registered in both of our names.Since we spend several months annually in our summer home we would like to make it my principal residence.Is there any reason ,in terms of capital gains,why we cannot simply transfer the title or just have it registered in one name.Thank you for your response.
The information which you have provided under your article ‘Your principal residence is tax exempt’ is very true. The cost of the property is much higher than it used to be some years ago.
When I initially commented I clicked the “Notify me when new comments are added” checkbox and now each time a comment is added I get four emails with the same comment.
Is there any way you can remove people from that service? Cheers!
Hi, I own a 3 floor building in Toronto. I use only one floor remaining two are rented to 2 families. Now I want to know how this principle residence tax exempt will help me. I am living in this property for last 15 years, the two floors are on rent from last 4 years.
I bought a house 5 years ago and tried to sell it 2 years ago before I got married. I ended up having to rent it out and now potentially have a buyer for the house. Is filing for the 45(2)election my best route as I never intended it to be a income property and had no choice but to rent it out? And who is best to speak with on advice for this, a lawyer? Thanks!
Building a new home. If we sell it after living in it for less than a year, is it still capital gains exempt.
This was very informative.
Just so I am clear, if I buy a new residence before selling the old, but do not rent the old, and sell it within a year of buying the new principle residence, would I be exempt from capital gains on both?
In other words, does deemed disposition trigger because you rent the old home out, or simply when the old home is no longer the principle residence?
If it just triggers on you temporarily having two homes, is there a grace period?
Did you ever get an answer to this question? We have the exact same.
I own a home in the Toronto area and have lived there for the past 10 years. My question is, I want to buy a condo in another province that I will want to retire to in about 10 years from now. Can I rent it out for the 10 years before retiring, then sell my existing home and move into the condo myself and ovoid capital gains?
Hello, My mother left my sister and I her condo when she passed away with a provision that her husband could live in it the rest of his life (paying all bills, taxes etc.) That husband is also the executor of the will (he is a practicing lawyer) and he is claiming that there is no need to put the title in mine and my sister’s names as he is keeping it it her name and will just pay the bills etc.. that way and on his death it will just turn over to us. My worry is that this will lead to all sorts of tax consequences for me and I also worry whether its possible to lose my rights to the property after a period. Can you provide any insight? thanks
after purchasing my house I was offered a job in another place. I rented my house but I do not own any other property. Now I am planning to sell the house. Please let me know how the taxes apply
From your post I gather you bought the house and immediately rented it out. So selling price minus buying price is your capital gain (or loss)
It does not matter that you do not own any other property.
If however you bought the house, lived in it for a while, then moved and rented it out before eventually selling the purchase price would be adjusted by the appraised fair market value of the home at the time you moved out.
My friends own a house which they currently live in and they rent out another house to a third party. They have rented out the house for about 3 years. They are looking to sell the rented house now. The house they currently live in has a larger capital gain so I believe they will select the house they currently live in as their principle residence. I noted you wrote in the article “However, you would still have that dangling one year to use on the other property.” Can you please explain/clarify, how my friends can utilize the “dangling year” to reduce taxes on the other rented property? Do they need to fill out a form or make an election? Please advise.
If I live in a house for 6 months then move. Do I have to pay capital gains?
If I want to build a retirement home do I only have 1 year to move into it before I have to have my principal residence [30yrs] sold? Also how is the date of completion determined?
If I sell my principal residence to buy a bigger one.
Do I pay taxes on my gain?
Please advise & thanks in advance!
Just to be clear, my family & I are still living in it since bought.
If your home was your principal residence for the time you owned it (and it appears to be – as you say you are still currently living in it) and you did not use your principal home to produce income, then you will not have to pay taxes on your capital gain when you sell your principal home.
I live in my townhouse.
I bought another townhouse (new) and want to rent it.
my questions are:
1) Can I stay live in my old townhouse and rent my new townhouse?
2) when I bought my new townhouse its mentioned that it should be my primary residence.
if this is the case, then after how many months I will be allowed to rent it.
We rented our house for 2 years now because I work out of town. We don’t own any other house. We are renter ourselves. Original plan was to go back and live there but now we are thinking of selling our house. Will there be capital gain tax on it although it is our only primary resident?
My PR is a semi which I moved in at the end of 2014.
If I buy a smaller townhouse, how many years I must leave in the new townhouse to be considered my PR, so if I decide to sell it I won’t be paying taxes?
I forgot to file form 2602 within 90 days (no one told me it had to be filed within 90 days) rescinding principal residence exemption, when I purchased a new home. Spoke with city assessor and he said I may have to pay tax and penalty. What does this mean?
I own a house in town and a cottage which I have owned for 20 years. I have now sold my cottage to my 42 year old son and wandering if I can use the cottage as a principal residence to get away from paying capital gains. Does selling my cottage to a family member make a difference or not?
We bought a house to be our new principal residence in 2019, but didn’t manage to sell our old principal residence (lived in from 2001 to fall 2019) until January 2020, closure Feb 2020. What are the tax implications – everything I read assumes you buy and sell in the same calendar year, alas this wasn’t possible.
If it makes any difference, the old house was worth a lot less than the new house, and didn’t increase in value much in the last couple of years.
My Mom is moving from her paid for apartment into a residence which she will pay rent on. Her apartment is the primary residence. We (three children) would like to rent the apartment to supplement her income in the case of her need of more care. Her financial adviser is telling us, that this is not a good idea because she will pay taxes on the income and get reductions in her monthly governmental income. From what I am ready above does this advice make sense? How do I get confirmation of this?
Help very much needed please. I have owned a cottage for 8 years and has always been for personal use. Bought and sold a couple of homes during this 8 year period where I have declared these as my principal residence.. In 2020 I moved into the cottage and this has been my primary residence for the last 2 years and I sold this at the end of 2022. Property values went up like crazy in these last 2 years. Is there any way of only reporting the gain using the value from 2020 vs now? thanks so much for your help!