Proposed Changes to the Principal Residence Exemption – A Calgary Tax Lawyer Analysis
On Oct 3, 2016 the Department of Finance announced 4 proposed changes to the principal residence exemption affecting non-residents of Canada, certain trusts, reassessment periods, and reporting requirements for all dispositions. The principal residence exemption is a well known and well utilized income tax exemption that allows a Canadian taxpayer to be exempt from paying income tax on capital gains on the disposition of the taxpayer’s principal residence. However, rather than only applying to the taxpayer’s primary home, the exemption can be claimed for any property that the taxpayer or his spouse/children ordinarily inhabit. That means the principal residence exemption can also apply to any capital property that you own that you reside in periodically, meaning that cottages or vacation homes may also qualify for the exemption. If you have questions about the principal residence exemption, talk to one of our expert Calgary Tax Lawyers today.
The 1+ Rule in Computing the Principal Residence Exemption – now Excluding Non-Residents
The way the principal residence exemption actually functions is through a formula which prorates the amount of years a taxpayer is a resident of Canada and has the capital property as their principal residence compared to the total amount of years that the taxpayer owned the property and exempts that proportion of the total capital gain on that property over that period of time. However, in calculating the years it was the taxpayer’s principal residence, one additional year is added in contemplation of the possibility that the taxpayer owned two homes in a year where one principal residence is disposed and another one acquired. However, this rule previously applied to taxpayers who were Canadian non-residents for tax purposes. Meaning, a non-resident would still be able to claim a principal residence exemption for 1 year even if they were never a Canadian resident for tax purposes. Under the proposed rules, the additional year is no longer applies to non-residents.
Personal Trusts – Restricting the Ability to Claim Principal Residence Exemptions
Currently, the principal residence exemption can be claimed both by individuals as well as personal trusts with some limitations. A personal trust is a testamentary or inter vivos trust where the interests in the trust were not acquired for consideration paid to the trust or settlor. Additionally, no corporation can be a beneficiary of the trust and the trust must have a specified beneficiary that ordinarily inhabits the property. There was previously no requirement for the beneficiary to be a Canadian resident. As such, it was possible for non-residents to use these trusts to gain access to the principal residence exemption. The proposed changes restricts trust eligibility to spousal or common-law partner trusts, alter ego trusts, qualifying disability trusts, and trusts for the benefit of a minor child of deceased parents. Additionally, the trust’s beneficiary who occupies the residence must be a Canadian resident and must be a family member of the individual who creates the trust. If you are using a trust to hold capital property for tax planning or estate planning, be cognizant of this change and contact our top Calgary Tax Lawyers to make sure your tax planning is still sound.
Expanded Reporting Requirements on Disposition of Real Property
Under current rules, the CRA does not require that taxpayers report the disposition of property where the full principal residence exemption applies, ie. where no tax is payable. Under new rules, taxpayers will have to report the disposition of the residence, including the proceeds of disposition, the acquisition date, and a description of the property even if the principal residence exemption applied for all years the residence was owned. This change in reporting requirements will apply to all dispositions of real estate that occur on or after January 1, 2016. Talk to one of our experienced and professional Calgary Tax Lawyers and make sure you are reporting as required.
New Extensions to Reassessment Periods
Normally, the CRA has 3 years to reassess individuals after they issue the initial notice of assessment. After 3 years, the CRA can no longer reassess that particular tax return unless the taxpayer made a misrepresentation that amounts to negligence or the taxpayer committed any fraud in filing the return. However, the proposed changes will also allow the CRA to extend the reassessment period indefinitely where the taxpayer does not report a disposition of real estate.
Result of the Proposed Changes
The most significant impact of the new proposed rules is that they prevent non-Canadian residents from accessing the principal residence exemption through either the 1+ rule or through a principal residence trust. Additionally, the proposed changes to the reporting requirement will increase the administrative burden on many more taxpayers, and if you do forget or fail to report the disposition of your real estate, the CRA can still reassess you beyond the normal reassessment period. The take home is to make sure that you are aware of these changes – see one of our leading Calgary Tax Lawyers and have everything done right.