Principal Issues: To determine if the capital gain accrued to the time the property's use changes from rental to a principal residence can be deferred for tax purposes.
Position: Yes.
Reasons: Where the taxpayer makes an election under subsection 45(3), the capital gain accrued during the period the property was used for rental purposes can be deferred for tax purposes.
2005-013436
XXXXXXXXXX Charles Rafuse
(613) 957-8967
June 16, 2005
Dear XXXXXXXXXX:
Re: Rental Property
This is in reply to your letter of May 29, 2005, concerning our comments contained in our letter to you of May 17, 2005.
You have also asked us to confirm that any accrued capital gain on your bungalow, at the time it becomes your principal residence, can be deferred for tax purposes until the final disposition of the property. You have indicated that there was never a capital cost allowance (CCA) claim on the bungalow, however, CCA had been claimed in the prior 6 years on the detached garage that was used and will continue to be used as a rental property.
Our Comments
As previously explained, where a taxpayer has completely changed the use of a property from income-producing to a principal residence, he or she is deemed by paragraph 45(1)(a) of the Income Tax Act (the "Act") to have disposed of the property (both land and building) and immediately thereafter reacquired it, at fair market value. This deemed disposition can result in a taxable capital gain. Under certain conditions an accrued capital gain may be deferred for tax purposes if the taxpayer elects under subsection 45(3) of the Act so that the above-mentioned deemed disposition and reacquisition rule under paragraph 45(1)(a) does not apply. An election under subsection 45(3) of the Act cannot be made if, for any taxation year ending after 1984 and on or before the change in use of the property from income-producing to a principal residence, CCA has been allowed in respect of the property to the taxpayer, the taxpayer's spouse or common-law partner.
Based on the information that you have provided, it is our opinion that you have two separate properties for which to consider the tax implications. For the Bungalow, if there was never a CCA claim, it can be converted from an income-producing asset to a principal residence and meet the conditions required so that any capital gain can be deferred. For the detached garage, this is a separate asset for which there is no change in use as it will continue to be an income-producing asset.
We trust this information is helpful.
Yours truly,
Charles Rafuse
For Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Planning Branch