Principal Issues: [TaxInterpretations translation] (1) Can the principal residence exemption reduce the entire capital gain on the disposition of a residual interest in a principal residence?
(2) Does paragraph 43.1(2)(b) apply on the death of the last of the taxpayer or the taxpayer's spouse to add to the ACB of the residual interest held by the family farm corporation (controlled by the taxpayer's son) an amount equal to the lesser of (i) or (ii)?
Position: (1) Question of fact. General comments.
(2) Yes, paragraph 43.1(2)(b) applies only if there is a non-arm's length relationship.
Reasons: Wording of paragraphs 40(2)(b), 43.1(2)(b) and 251(1)(a) and subparagraph 251(2)(b)(iii).
2006-015210 XXXXXXXXXX Anne Dagenais, Advocate (613) 957-2121 December 6, 2006
Dear Sir,
Subject: Request for Technical Interpretation ______ Disposition of a Residual Interest in a Principal Residence
This is in response to your faxes of September 23 and 26, 2005, in which you asked for our opinion on the above subject. We apologize for the delay in responding to your question.
Unless otherwise indicated, all statutory references herein are to the provisions of the Income Tax Act (the "Act").
Facts
A farmer disposes of his principal residence to a family farm corporation while retaining a life estate in it until he and his spouse die.
Questions
(1) Is the principal residence exemption available to exempt the entire capital gain on the disposition of the residual interest?
(2) On the death of the taxpayer or the taxpayer's spouse, does paragraph 43.1(2)(b) apply to add to the adjusted cost base ("ACB") of the residual interest held by the family farm corporation (controlled by the taxpayer's son) ("corporation") of an amount equal to the lesser of the amounts referred to in subparagraph 43.1(2)(i) or (ii)?
Our Comments
As stated in paragraph 22 of Information Circular 70-6R5 dated May 17, 2002, it is the practice of our Directorate not to issue written opinions on proposed transactions otherwise than by way of advance rulings. Furthermore, when it comes to determining whether a completed transaction has received appropriate tax treatment, that determination is made first by our Tax Services Offices as a result of their review of all facts and documents, which is usually performed as part of an audit engagement. However, we can offer the following general comments, which may not apply in full to the situation you have submitted to us.
Question (1) - Exemption for "principal residence".
The principal residence exemption is intended to reduce or eliminate a gain on the disposition of a principal residence. The term "principal residence" is defined in section 54 and the calculation of the principal residence exemption is set out in paragraph 40(2)(b). For more information, see Interpretation Bulletin IT-120R6, "Principal Residence".
The question you asked is a question of fact that can only be resolved by considering all the relevant facts. Various elements must be taken into account in the analysis of the situation.
By virtue of paragraph (c) of the definition of principal residence, the taxpayer must designate the property as his or her principal residence and must not have designated any other property for the same year.
Interpretation E 2005-0155601E5 deals with a similar issue and states the following:
When the above individual disposed of her remainder interest in the property by way of gift inter vivos to her daughter, while retaining the life estate, subsection 43.1(1) of the Income Tax Act (the "Act") would have applied so that the individual would have been deemed to have disposed of her life estate in her property for proceeds of disposition equal to its fair market value at that time. The individual would also have been deemed, by subsection 43.1(1) of the Act to have reacquired the life estate immediately after that time at a cost equal to the proceeds of disposition. As a result, any gain accrued on the entire property would have been recognized at that time (1999) by the individual. However, any gain would have been offset by a principal residence exemption since the property was the individual's principal residence. Pursuant to paragraph 69(1)(c) of the Act, the daughter would have been deemed to acquire the remainder interest at a cost equal to fair market value.
In the event that the principal residence is situated on land of half a hectare or less, the capital gains exemption will include the land. Where the land exceeds one-half hectare, the taxpayer must demonstrate that the excess land is necessary for the use of the dwelling as a principal residence. You can consult interpretations F 2004-0062451I7 and F 2005-0142411E5 where we have given our opinion in this respect.
Question (2) - Paragraph 43.1(2)(b)
Paragraph 43.1(2)(b) reads as follows:
Where, as a result of an individual’s death, a life estate to which subsection 43.1(1) applied is terminated,
[...]
(b) where a person who is the holder of the remainder interest in the real property immediately before the death was not dealing at arm’s length with the holder of the life estate, there shall, after the death, be added in computing the adjusted cost base to that person of the real property an amount equal to the lesser of
(i) the adjusted cost base of the life estate in the property immediately before the death, and
(ii) the amount, if any, by which the fair market value of the real property immediately after the death exceeds the adjusted cost base to that person of the remainder interest immediately before the death.
Paragraph 43.1(2)(b) applies if there is a non-arm's length relationship between the person who holds a residual interest in the real property immediately before the individual's death and the holder of the life estate. In the situation as you described it, the taxpayer or his or her spouse holds a residual interest in the principal residence prior to death and the holder of the residual interest is a family farm corporation that is controlled by the taxpayer's son. Thus, the taxpayer and the corporation are "related persons" by virtue of subparagraph 251(2)(b)(iii) and are deemed not to deal with each other at arm's length by virtue of paragraph 251(1)(a).
Consequently, the lesser of the amounts set out in subparagraphs 43.1(2)(b)(i) and (ii) will be added to the ACB of the residual interest held by the corporation.
These comments are not advance income tax rulings and do not bind the Canada Revenue Agency with respect to any particular factual situation.
We hope you find these comments of assistance. Should you require any additional information regarding the content of this document, please do not hesitate to contact us.
Best regards,
Phil Jolie
Director
Business and Partnerships Division
Income Tax Rulings Directorate