Converting Your Ontario Home to a Rental: Change-of-Use Tax Rules

You have moved out of your Ontario home and plan to rent it instead of selling. It feels like nothing has changed on paper, but for tax purposes the change in how you use the property matters a great deal.

This article explains the deemed sale that can arise, the election that can postpone it, and how the principal residence exemption fits in. Your facts will shape the outcome, so a lawyer or accountant can confirm how this applies to you.

What counts as a change of use

Every time you change the use of a property, you are treated as having sold it at fair market value and bought it back at the same amount. Moving out of your home and renting it is a common example.

That deemed sale can matter because a capital gain is the proceeds of disposition minus the property's adjusted cost base and any outlays and expenses of selling it. If the home was your principal residence for every year you owned it, you usually pay no tax on the gain. If not, only part of the gain is exempt.

Not every property qualifies as a principal residence. A property counts for a year only if it is a housing unit, you own it alone or jointly, you or certain family members lived in it at some time during the year, and you designate it as your principal residence. A house, cottage, condominium, apartment, trailer, mobile home or houseboat can qualify. The land that counts is usually limited to half a hectare (1.24 acres), unless you show that more is needed to use and enjoy the home.

For 1982 and later years, a family can designate only one home as its principal residence for each year. A spouse or common-law partner is not part of your family unit for that limit if, throughout the year, they lived apart from you and were separated under a judicial separation or a written separation agreement.

The section 45(2) election

When you turn your principal residence into a rental, you can elect not to be treated as having changed its use. While the election is in effect, you can designate the home as your principal residence for up to four years. You cannot claim CCA on the property while the election applies.

To make the election, you attach a signed letter to your income tax and benefit return for the year the change of use happens.

• Without the election: a deemed sale and rebuy at fair market value.
• With the election: no deemed change of use, and up to four years of designation.
• With the election: no CCA on the property.

Exceptions that can extend or reshape the rules

The four-year limit is removed when your employer relocates you, but several conditions must be met. For example, the home must be at least 40 kilometres farther from the new workplace than your later residence, and the employer must not be related to you or your spouse or common-law partner.

If a rental is converted back to your home, you can elect under subsection 45(3) to postpone reporting the deemed sale until you actually sell. You can also designate the home for up to four years before you move in. The election is due by the earlier of 90 days after the CRA asks for it and your filing due date for the year you actually sell.

Other situations have their own rules. Years in which you were not resident in Canada do not count as designated years in the exemption formula, but they still count as years owned. An executor or other legal representative of a deceased person uses Form T1255 instead of Form T2091(IND). The CRA will accept a late designation in certain circumstances, but a penalty may apply. How much any penalty would be depends on your situation. Whether a penalty would apply in your case is worth confirming with a lawyer or accountant.

Whether these exceptions fit depends on the facts, and all of the CRA's listed conditions must be met.

Renting only part of the home

If you use only part of the home to earn income, you split the selling price and adjusted cost base between the two uses on a reasonable basis, such as square metres or number of rooms. Only the gain on the income-producing part is reported.

The CRA generally keeps full principal residence treatment where the income use is ancillary to the main use as a residence, there is no structural change, and no CCA is claimed.

Rental income is reported on Form T776, with gross rents on line 8299 and the net amount from line 9946 going on line 12600 of your return. Current expenses are generally deductible in the year incurred, while capital expenses are deducted over time through CCA. If you own the property jointly, each co-owner reports their share according to their ownership share. CCA cannot be used to create or increase a rental loss.

What to do next

• Note the date you move out and the date rental begins.
• Get a record of the home's fair market value around that date.
• Decide, before filing, whether to make the election, and prepare the signed letter.
• Keep rental income and expense records, and report rental income on Form T776.
• Ask a lawyer or accountant before you claim CCA, since it is not allowed while the election applies.

Frequently asked questions