When you sell your home that is your principal residence, you do not have to pay tax on the gain because of the principal residence exemption. However, when selling a property other than your principal residence, you will be reporting the gain as either business income or income from capital gains. Tax on selling real estate in Canada can be quite complicated. The distinction is critical because business income is fully taxable and capital gain is taxable at 50%. Your overall intention and specific circumstances determine how you should report the gain.
Let’s go over a few common scenario where you might sell your real estate and the tax treatment of each.
With an assignment sale, the buyer of a property assigns the legal rights and obligations of the contract to a secondary buyer. You must report any profit from an assignment sale as business income in the year in which you assigned your rights.
If the property is a pre-construction and is not yet occupied, the total amount received from the assignment sale may be subject to GST/HST.
In this scenario, the buyer purchases a property, takes possession, and typically does some renovation. After the home is improved, the buyer sells the property at a higher value for a gain. The buyer may have lived in the property while making improvements. However, this does not entitle them to the principal residence exemption, because the intention was always to buy, improve and sell for profit. You must report any profit when flipping a property as business income.
Build and sell
Build and sell typically involves a person who buys vacant land and builds a property which is then sold, or buys a house which is then significantly renovated or is demolished and replaced with a newly built home. The tax treatment is similar to flipping a property. The buyer may have lived in the property while building it. However, this does not entitle them to the principal residence exemption, because the intention was always to build and sell for profit. You must report any gain as business income.
In this scenario, the buyer purchases a property to earn rental income. You must report any profit as capital gain when the property is sold.
What happens when you are selected for audit
Real estate reporting is one of the main emphasis of audit due to the increase in speculative activities across Canada. If you are selected for an audit, the CRA may consider the following factors to determine whether you have correctly reported a real estate sale:
- the type of property sold
- how long you owned it
- your history of selling similar properties
- whether you did any work on the property
- why you sold the property
- your intention in buying the property
What if you make a mistake in reporting
You will be liable for taxes otherwise due plus penalties and interest if you report capital gain on a profit that is considered business income. The tax owing includes both income tax and GST/HST. If you realize that you have made a mistake and wish to come forward, you may qualify for penalty relief through the Voluntary Disclosures Program. To ensure that you are meeting your tax obligations, it’s best to speak with a tax accountant to fully understand the tax on selling real estate.