Principal Issues: Whether there is a deemed disposition where a principal residence is constructed on vacant land.
Position: No.
Reasons: There is no change in use. The tax consequences accompanying the construction of a principal residence on vacant land are discussed in paragraph 11 of IT-120R6.
2006-020319 XXXXXXXXXX Charles Rafuse 613-957-8967 December 11, 2006
Dear XXXXXXXXXX:
Re: Principal Residence Exemption
This is in reply to your facsimile of August 25, 2006, concerning the principal residence exemption.
You have outlined a situation where an individual has a primary residence in Edmonton as well as a lake front property purchased in 1976. The capital gain regarding the lake front property was crystallized in 1994 as result of the transitional rules when the $100,000 capital gains exemption was withdrawn. The taxpayer constructed a residence on the lake front property and in 2005 sold the Edmonton residence and moved to the lake front residence.
Your question concerns whether there is a deemed disposition at fair market value of the lake front property when the taxpayer commenced to reside there.
Our Comments
Written confirmation of the tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling request submitted in the manner set out in Information Circular 70-6R5, Advance Income Tax Rulings, dated May 17, 2002. Where the particular transactions are completed, the inquiry should be addressed to the relevant Tax Services Office. However, we are prepared to offer the following general comments.
Where an individual changes the use of all or a part of an income producing property by making the property that individual's principal residence, a deemed disposition of the converted property is triggered. Subsection 45(1) of the Income Tax Act provides that the disposition takes place at fair market value and that a reacquisition for the same amount occurs at the same time. As a result of the deemed disposition under subsection 45(1) of the Act, a capital gain may arise. You have not indicated whether the lake front property was previously used for the purpose of gaining or producing income. If it was not so used, there would not be a change from income to personal use and therefore, a deemed disposition would not occur when the taxpayer started to use it as a residence.
If the lake front property had been used to for the purpose or gaining or producing income, the deemed disposition that is triggered from the change in use to a principal residence can be deferred. It is the Canada Revenue Agency's position that if there is a change in use of an entire property, the individual could defer recognition of any capital gain by electing under subsection 45(3) of the Act so that the change in use rules in subsection 45(1) of the Act would not apply. This deferral of a capital gain is discussed in paragraph 28 of IT-120R6 - Principal Residence
The tax consequences accompanying the construction of a principal residence on vacant land are also discussed in paragraph 11 of IT-120R6. You will note therein that land cannot be designated as a principal residence for years that are prior to the year in which the individual, his or her spouse or common-law partner, former spouse or common-law partner, or child commences to ordinarily inhabit the housing unit. Accordingly, although there are no immediate tax consequences at the time that vacant land becomes part of a principal residence, a taxable capital gain may result when the principal residence is later disposed of.
We trust this information is helpful.
Yours truly,
S. Parnanzone
For Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch