Principal Issues: [TaxInterpretations translation] A duplex was held in equal shares by two individuals in undivided co-ownership. Each individual normally lived in their housing unit. They disposed of the property. Can each individual eliminate the entire capital gain on the unit the individual lives in by claiming the principal residence exemption, or is that exemption limited to the percentage the individual owns in the unit the individual lives in? (i.e. 50%)?
Position: We are of the view that each individual can claim the principal residence exemption for the housing unit they live in.
Reasons: Even if a person legally sells the person’s undivided interest in an immovable, the value of the person’s share is attributable to the housing the person lives in and disposes of for the purposes of the Act.
June 9, 2011
Montérégie-Rive-Sud Tax Services Office Income Tax Rulings Directorate Business and Partnerships Division Danielle Bouffard Attention: Lyne Filion, CGA 2011-039500
Exemption for principal residence on sale of duplex owned by undivided co-ownership
This is in response to your note dated December 13, 2010 in which you requested our comments regarding the application of paragraph 40(2)(b) of the Income Tax Act (the "Act") in the situation described below. We have considered the additional information that you faxed to us on May 6, 2011.
Unless otherwise indicated, all statutory references herein are to the provisions of the Act.
Facts
- Mr. Y and Ms. X XXXXXXXXXX purchased, as undivided co-owners, a duplex located in the Province of Quebec.
- The building has two different municipal addresses with two entrances independent of each other, separate heating systems, separate hot water tanks, and a tax bill stating two municipal addresses. Based on the above, you have assumed that there are two separate housing units.
- Since the acquisition of the building, Mr. Y has ordinarily lived in the lower unit and Ms. X has ordinarily lived in the upper unit, for a period of three consecutive years.
- Mr. Y and Ms. X disposed of the building and, in the year of disposition, designated their housing unit as their principal residence for the three years they lived there. They used the principal residence exemption to eliminate the capital gain on the disposition of their respective shares of the duplex.
- Mr. Y and Ms. X did not designate any other property for the purposes of the principal residence exemption for the years in question.
Question
Can each individual, Mr. Y and Ms. X, eliminate the entire capital gain on the unit in which he or she lives by claiming the principal residence exemption, or is that exemption limited to the percentage represented by the unit owned by each and in which each lives (50%)?
Your Comments
You have referred to certain documents issued by the Income Tax Rulings Directorate in which differing opinions are expressed as to the principal residence exemption that individuals may claim for their housing unit where they live in a duplex or triplex held by them in undivided co-ownership.
On the one hand, in opinion # 2004-0091811E5, it is stated that the exemption for principal residence would be restricted to the undivided interest of each individual in the housing unit lived in:
[TaxInterpretations translation] Finally, in a case where the residence was acquired in joint ownership by Mr. A and Mrs. B and it is assumed that there are two housing units as per the above, we believe, based on the provisions of the Act, that the principal residence exemption would be restricted to the undivided interest of each taxpayer in the dwelling unit inhabited by each, that is, 50% of the dwelling which each inhabits. (our emphasis)
On the other hand, in opinion # 2010-0375501, it is stated that a taxpayer could reduce or eliminate the capital gain related to the housing unit lived in by him or her in in a triplex held in undivided co-ownership:
[TaxInterpretations translation] A taxpayer who is an undivided co-owner of a triplex could therefore designate the unit of the triplex in which he or she normally resides as his or her principal residence if all the conditions of the definition of principal residence provided in section 54 are otherwise met. If this is the case, he or she may therefore claim the principal residence exemption under paragraph 40(2)(b) when disposing of his or her interest in the triplex in order to reduce or eliminate the capital gain relating to this dwelling. (our emphasis)
Our Comments
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The Civil Code of Québec ("C.C.Q.") defines co-ownership in Article 1010 C.C.Q. as being "... ownership of the same property, jointly and at the same time, by several persons each of whom is privately vested with a share of the right of ownership.” Reference is made here to the property rights exercised by several persons.
Article 1016, para. 1 C.C.Q. provides that "[e]ach undivided co-owner may make use of the undivided property provided he does not affect its destination or the rights of the other co-owners.” Also, agreements relating to the use and exclusive enjoyment of an undivided property may concern all or part of it and may equally or unequally benefit all or only certain of the co-owners. A building owned in undivided co-ownership by two individuals in a proportion of 50% each, is owned for each of its parts by each of the individuals in a proportion of 50%, even if each one of them has the exclusive use and enjoyment of the part of the property reserved for him or her.
The market value of a building depends on the type of ownership by the owner and certain factors attached to the property. In other words, that value takes into account the geographic location of a housing unit and also includes the value of the common elements, whether the unit is owned in divided or undivided co-ownership. In both cases, the market value of an interest takes into account the common use and exclusive use of the property by the co-owner.
In the case where each of the co-owners has the exclusive right to live in his or her own unit, the value of their undivided share must take into account at the same time the exercise by each of them of the exclusive use and enjoyment of their unit, which necessarily includes the right to the use of the common parts of the building, and the prohibition on the use of the unit occupied by the other co-owner. Consequently, even if a person legally is selling his or her undivided interest in an immovable, the value of that share is attributable to the unit he or she lives in and is disposing of for the purposes of the Act.
Section 54 defines the principal residence as, among other things, the property owned, whether jointly with another person or otherwise, provided that the housing unit was ordinarily inhabited in the year by the taxpayer, by the taxpayer’s spouse or common-law partner or former spouse or common- law partner or by a child of the taxpayer.
Paragraph 3 of Interpretation Bulletin IT-120R6 lists the types of property that qualify as a principal residence. A house, apartment or unit in a duplex, apartment building or condominium is, among other things, property that qualifies as a principal residence.
In Boulet v. Canada (Endnote 1), Judge Bédard set limitations on what constitutes a principal residence by concluding that two separate parts of the same dwelling (which was owned by the same taxpayer) constituted "separate housing units" and therefore only one of them was eligible for the exemption.
In view of the foregoing, we are of the view that a housing unit which has the exclusive use and enjoyment of a taxpayer meets the qualifying criteria for a principal residence. However, the housing unit in question must also be the property owned, whether jointly with another person or otherwise, by the taxpayer. The English version refers to a "housing unit owned, whether jointly with another person or otherwise". However, co-ownership is defined in the C.C.Q. as ownership of the same property, jointly and at the same time, by several persons. The property held in undivided co-ownership may therefore qualify as a principal residence under the terms of the Act. However, according to the findings in Boulet, the co-owner can claim the principal residence exemption only in respect of the housing unit in which he or she lives (or which is inhabited by his or her spouse or common-law partner or former spouse or former spouse or common- law partner or by a child of the undivided co-owner.)
In conclusion, if all the conditions of the definition of principal residence under section 54 are otherwise satisfied, Mr. Y and Ms. X could respectively designate the duplex unit in which they ordinarily reside as their principal residence. Thus, the gain realized on the disposition of their undivided co-ownership unit would be fully qualified for the principal residence exemption in paragraph 40(2)(b).
We hope that these comments are of assistance.
François Bordeleau, Advocate
Manager
Business and Partnerships Section
Income Tax Rulings Directorate
FOOTNOTES
1 2009 DTC 1227 (TCC) Hereinafter Boulet decision