Moving Back Into a Former Rental: The 45(3) Election in Canada

You bought a property, rented it out for a while, and now you plan to live in it yourself. The move feels simple, but for tax purposes the change in how you use the property can matter a great deal, even though nothing was sold.

This article explains what the Income Tax Act generally does when a rental becomes your home, how the subsection 45(3) election can postpone the tax result, and what can block it. Your facts will drive the outcome, so it is worth confirming your situation with a lawyer or accountant before you file.

This article covers Canadian federal tax law, which applies in every province.

What happens when a rental becomes your home

A change in use, such as a home becoming a rental, is treated as a deemed disposition at fair market value and an immediate reacquisition at the same amount, which becomes the new cost base. The same idea applies in the other direction, when a rental or business property becomes your residence. No money changes hands, yet you can be treated as having sold the property.

For a partial change in use, the proportionate share of fair market value is used. If the property is a house with a rented basement that you now take over, only that part is affected.

The result can be a capital gain on a property you still own. The election described below postpones the deemed disposition until you actually sell, so the gain is dealt with on the eventual sale rather than now.

How the subsection 45(3) election works

A subsection 45(3) election covers a change from rental or business use to personal use. It postpones the deemed disposition until the property is actually sold.

It also allows you to designate up to four prior years as years in which the property was your principal residence. That is not allowed if capital cost allowance (CCA) was claimed.

• It applies when the use changes from income-producing to personal.
• The deemed sale is put off until the actual sale.
• Up to four earlier years can be designated, which can help shelter the gain.
• A partial change in use can also qualify for an election, for changes since 19 March 2019.

The notice deadline

The election is made by written notice. It is due by the earlier of 90 days after a CRA demand and the filing-due date for the year of the actual disposition.

In practice, that means you may not need to file anything in the year you move in. However, waiting carries a risk: if CRA asks, a 90-day clock starts. Keeping a dated copy of your notice and your records of the change in use makes it easier to respond. How a missed date is handled depends on your situation, so it is worth confirming with a lawyer or accountant early.

What blocks the election: CCA

The 45(2) and 45(3) elections are not available if CCA was claimed on the property after 1984 and on or before the change in use. This covers claims by you, your spouse or common-law partner, or a trust of which either of you is a beneficiary. The four-year designation under 45(3) is also not allowed if CCA was claimed.

CCA is the tax depreciation some landlords claim against rental income. If you claimed it, the deemed sale at fair market value generally applies. Check your past returns, or ask your accountant, before you rely on the election.

Partial changes are different. A partial change in use creates no deemed disposition if the rental or business use is relatively small, there are no structural changes and no CCA is claimed. Claiming CCA on a business part of the home can cost the exemption for that part.

The exemption rules still apply when you sell

The property must still qualify as a principal residence. It has to be a housing unit you own, alone or jointly, and be ordinarily inhabited in the year by you, your spouse or common-law partner, a former spouse or partner, or your child. Whether that is so is a question of fact, and even a short period of occupation can be enough.

Only one property per family unit can be designated for each year from 1982 onward. For 1993 and later, the family unit is you, your spouse or common-law partner and your unmarried children under 18. A spouse or partner separated for the whole year under a court order or written separation agreement is not in the same family unit for that year. Any year you designate for the former rental cannot also be used for another home.

When you sell, how much of the gain is exempt depends on how many years the property is designated compared with the years you owned it, using a formula in paragraph 40(2)(b) of the Income Tax Act. In that formula, B is one plus the number of years designated, and C is the number of years you owned the property. Years in which the property was vacant land count in C but not in B. Designating the earlier rental years under 45(3) adds to B, which increases the exempt portion.

What to do next

• Write down the date the use changed and get a fair market value estimate or appraisal for that date.
• Check whether CCA was ever claimed on the property, including by a spouse or partner.
• List every year you want to designate and confirm no other home is designated for your family unit in those years.
• Diarize the notice deadline and keep a dated copy of your written notice.
• On sale, report it on Schedule 3, designate in Part 1 and complete Form T2091(IND).
• Speak to a lawyer or accountant if the property was partly rented, owned with others, or held through a trust.

Frequently asked questions