K. Harding (613) 957-2129
December 10, 1986
Dear Sirs:
This is in reply to your letter of September 26, 1986 concerning the disposition of property in respect to the following hypothetical situation.
The taxpayer purchases a rental property and rents it for several years. The capital cost, the adjusted cost base and fair market value remain fairly constant. The building was torn down in 1986 and the taxpayer built a principal residence on the vacant property.
You are concerned with proceeds of disposition with respect to the change of use and the calculation of the terminal loss.
Paragraph 13(7)(a) of the income Tax Act indicates that where a taxpayer acquired property for the purpose of earning income from business or property and commences to use it at a later date for personal use, he will be deemed to dispose of the property at the later date at its fair market value.
Subsection 13(21.1) indicates that where at a particular time in a taxation year the taxpayer disposed of a building of a prescribed class and the proceeds of disposition of the building (determined under paragraph 13(7)(a) in your situation) are less than the lesser of:
(a) the cost amount and
(b) the capital test
of the building to the taxpayer immediately before its disposition paragraphs (a) and (b) provide for deemed proceeds of disposition for the land and building. This deemed proceeds will be used for the purposes of clause 13(21)(f)(iv)(A) and subdivision c of the Act.
The determination and deduction of a terminal loss is provided for in subsection 20(16) of the Act. It should be noted that the proceeds determined in subsection 13(21.1) are used in this calculation since it is determined for the purposes of clause 13(21)(f)(iv)(A).
As an example assume the proceeds of disposition for land and building (fair market value) pursuant to 13(7)(a) was $180,000 (land $150,000 and building 30,000). The UCC and capital cost of the building was $40,000 and $60,000 respectively and the ACB of the land was $110,000. The taxpayer would have a capital gain on the land of $40,000 ($150,000 - $110,000) and a terminal loss on the building of $10,000 except for subsection 13(21.1).
Since the proceeds of disposition of the building determined under paragraph 13(7)(a) ($30,000) are less than cost amount ($40.000) and the capital cost ($60,000), subsection 13(21.1) will provide a proceeds of disposition for the land and building for purposes of clause 13(21)(f)(iv)(A) and for capital gains purposes. On the assumption that the land and building are disposed of in the same year, paragraph 13(21.1)(a) is applicable. Therefore, the proceeds of disposition of the building will be S40,000 and the proceeds of disposition of the land is deemed to be S140,000 ($180,000 - $40,000). Since the ACB of the land is $110,000, the capital gain on the land is $30,000 with no terminal loss on the building.
The comparison of what happens when subsection 13(21.1) overrides subsection 13(7) and paragraph 54(h) is as follows:
13(7)(a) 13(21.1)
Land Building Land Building
Proceeds 150,000 140,000 -ACB 110,000 110,000 Capital Gain 40,000 30,000
UCC 40,000 40,000 Proceeds 30,000 40,000 Terminal Loss 10,000 NIL
Accordingly, the effect of the application of subsection 13(21.1) in this example is to reduce the capital gain on the land by the amount of the terminal loss determined under paragraph 13(7)(a).
We trust this explanation is adequate for your purposes.
W.R. McColm
for Director Reorganizations and Non-Resident Division Specialty Rulings Directorate Legislative and Intergovernmental Affairs Branch