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

Many owners rent out a property for a few years and later move in themselves. It feels like nothing has changed on paper, but for tax purposes the change in how you use the property can matter a great deal.

This article explains, in general terms, what happens under federal tax law when a rental or business property becomes your home, how a subsection 45(3) election can postpone the tax, and what to watch for. Your own facts decide the result, so a lawyer or accountant can confirm how it applies to you.

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

What a change in use normally means

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. For a partial change, the proportionate share of fair market value is used.

The same idea applies in reverse. When a rental or business property becomes your residence, you can be treated as having sold it at its fair market value, even though no money changed hands. That is why people look at the subsection 45(3) election.

What the subsection 45(3) election does

The election applies when a property moves from rental or business use to residence use. It postpones the deemed disposition until the property is actually sold.

It also allows up to four prior years to be designated as years when the property was your principal residence, but not if capital cost allowance was claimed. Those years count toward the principal residence exemption when you eventually sell, subject to the usual rule that only one property per family unit can be designated for a year.

• Without the election, the deemed sale at fair market value happens when the use changes.
• With the election, the deemed sale is postponed until the actual sale.
• The election lets you designate up to four earlier years, if no capital cost allowance was claimed.

When the election is not available

The 45(2) and 45(3) elections are not available if capital cost allowance was claimed on the property after 1984 and on or before the change in use. The bar applies whether the claim was made by you, your spouse or common-law partner, or a trust of which either of you is a beneficiary.

This is why it matters to know what was claimed on past returns. Ordinary rental expenses are different from capital cost allowance, so check what was actually deducted. If you are unsure, an accountant can review the old returns.

Since 19 March 2019, a 45(2) or 45(3) election is also available for a partial change in use. For example, a rented portion of a house that you now use yourself may qualify, depending on the facts.

The deadline and how to give notice

The notice must be in writing. 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.

A CRA demand can arrive before you sell, so the 90-day deadline is not tied only to the sale. It is wise to document your move-in date, the earlier rental years, and whether any capital cost allowance was claimed, while the records are easy to find.

Reporting the sale and fixing a missed designation

When you later sell, the sale must be reported on Schedule 3 of your T1 return, even if there is no gain or the whole gain is exempt. You designate the property and calculate any gain on Form T2091(IND). On Schedule 3, the designation is made in Part 1 and the sale is reported in Part 2.

If you forget to designate in the year of sale, you can ask CRA to amend that year's return. CRA may accept a late designation in certain circumstances, but a penalty may apply. The penalty is the lesser of $8,000 and $100 multiplied by the number of complete months between the due date and the date of the application.

The Minister may extend the time if the request is made within ten calendar years after the tax year ends. The Minister may also waive or cancel penalties or interest if the request is made within that same ten-year window.

What to do next

• Write down the date the property stopped being a rental and became your home.
• Find old returns and confirm whether capital cost allowance was ever claimed, by you, your spouse or partner, or a related trust.
• Get a fair market value estimate near the date of the change in use, such as an appraisal.
• Keep records of purchase costs and improvements to support your cost base.
• Before you sell, ask an accountant or lawyer to confirm the election, the notice deadline and the Schedule 3 reporting.

Frequently asked questions