CRA taking action against primary residence exemption: what you need to know

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Jamie Golombek: For a property to qualify as your primary residence, four criteria must be met

When you sell your home, you usually don't have to pay tax on any profit from the sale because of the PRE. When you sell your home, you usually don’t have to pay tax on any profit from the sale because of the PRE. Photo by David Bloom/Postmedia

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If you sold your primary residence in 2021, you must report that sale on your 2021 tax return, usually on May 2, 2022, even if it qualifies in full for the primary residence exemption (PRE).

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The designation of your primary residence is listed on the second page of Appendix 3 of your return, and you must also complete the relevant sections of Form T2091(IND), Designation of a residence as primary residence by a person.

For a property to qualify as your primary residence for a given tax year, four criteria under the Income Tax Act must be met: the property must be a residential unit; you must own the home (alone or together with someone else); you or your spouse (or cohabiting partner) or children must “normally occupy” the home; and you must ‘designate’ the house as your main residence.

Please note that a seasonal home such as a cottage, cabin, lake house or even ski chalet can be considered “usually occupied during the year”, even if you only use it during holiday periods “provided the main reason for the possession of the property is not to earn or produce income.”

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However, a rental property is generally not considered a primary residence and you could run into capital gains tax problems if you sell one in 2021. Likewise, you cannot claim the PRE if you bought or built a house with the aim of selling it for a profit.

In recent years, the Canada Revenue Agency has cracked down on alleged abuses of the exemption, most recently with a letter-writing campaign, in which it sent letters to individuals “who may have misapplied the Primary Residence Exemption (PRE)”.

A rental home is generally not considered a primary residence. A rental home is generally not considered a primary residence. Photo by Julie Oliver/Postmedia

As of January, educational letters have been sent to approximately 1,700 taxpayers claiming the PRE in two specific scenarios. The first letter was addressed to taxpayers who claimed the PRE for two consecutive years and the second letter was addressed to taxpayers who claimed the PRE and previously reported gross rental income in their tax return.

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“The CRA uses an education-centric approach and aims to help recipients understand how to properly report a property decision,” CRA spokesman Hayley Hanks said in an email. “Individuals who received a letter were given the option to contact a CRA agent to explain how to use the PRE, or to change their return if appropriate.”

The CRA letters

The first letter was sent to taxpayers who requested the PRE in both their 2018 and 2019 tax returns. The letter identifies the properties on which the taxpayer has claimed the PRE and further explains that when you sell your property, because of the PRE, you usually not have to pay tax on any profit from the sale.

However, if you buy a property with the main purpose of selling it, you will owe tax on the resulting gain (or gain). The CRA further points out that the gain on these sales may be considered business income, which is 100 percent taxable, or may be considered a capital gain, in which case only half of the amount needs to be included in income.

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The letter then politely asks the taxpayer or agent to “review” their return “to ensure that you accurately reported your real estate determinations and that you qualified for the primary residence exemption for both properties.” The CRA is encouraging taxpayers who need to make corrections to amend their returns, and said it will contact them by phone in the coming weeks.

The CRA uses an education-centric approach and aims to help recipients understand how to properly report a property decision

Hayley Hanks

The CRA has also been successful in court when the PRE has been claimed multiple times over a number of years, such as in a 2021 case in which a Vancouver taxpayer bought, demolished, built, and then sold three homes over a six-year period, and tried to claim the PRE, to no avail, on every sale.

The second batch of CRA letters were sent to taxpayers who claimed the PRE for the disposal of real estate, but also reported a “reduction in gross rental income.” In the letter, the CRA reminds these taxpayers that if you have sold your rental home, the PRE will only be available if the property was previously your primary residence and you submitted the appropriate election. In addition, the PRE may not be available for all years of property ownership.

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The CRA also encourages these taxpayers to amend their returns, if applicable, and will contact them by phone.

Changes coming?

In the upcoming federal budget, we could see the formal introduction of the liberals’ anti-flipping tax, intended to “reduce speculative market demand and help cool excessive price growth,” and make it easier for the CRA to perceived abusers of the PRE.

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Pledged as part of the party’s pre-election platform, the plan calls for the PRE to be removed from individuals who sell their primary residence within 12 months of purchase (or transfer of ownership), and to treat the profits from the sale as taxable capital gains beginning in the tax year 2022.

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There would be some notable exceptions: the sale of fallow land; the sale of a home that has been destroyed, condemned, or damaged as a result of a natural or man-made disaster during the 12-month period; the owner’s previous home has been destroyed or condemned; or death, divorce, legal separation, serious illness/injury or change of employment of the beneficial owner during the 12 month period.

In September 2021, the Parliamentary Budget Office estimated that this new measure could bring in about $36 million in additional tax revenue over the first five years.

Jamie Golombek, CPA, CA, CFP, CLU, TEP is the General Manager, Tax & Estate Planning at CIBC Private Wealth in Toronto. Jamie.Golombek@cibc.com

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