Principal Residence Exemption & CMHC Rules For Income From Secondary Suites

By George E. Dube, CPA, CA

With CMHC now allowing income from secondary suites to be counted for mortgage qualification purposes, we’ve been asked a variety of questions on the tax implications of this change. The big three are:

1. Does having a portion of your home rented through a seconday suite void the use of the principle residence exemption (PRE)?
2. What expenses would be allowed as deductions against this income?
3. If I otherwise have no home for PRE, can I designate one of my rental properties for this exemption?

To answer these questions, let’s look at some of the rules around the PRE, and rental units.

Principal Residence Exemption (PRE)  

The PRE allows you to receive the profit in selling your home tax free, and thus is a very valuable tax tool. Conceptually the PRE is very simple; however, in practice you can encounter many surprises if you’re not prepared. Here are some general points related to the exemption:

• The “housing unit” must have been “ordinarily inhabited” in the year by you, your spouse/common-law partner, former spouse/common-law partner or child.
• The amount of land is limited to ½ hectare unless the additional land was necessary for the use and enjoyment of the “housing unit”.
• A family may designate only one property per year since 1982.
• “Housing units” can include an apartment in a multi-plex, cottages, mobile homes, trailers, or houseboats amongst others. So for example, the PRE would only protect you from 1/3 of the gain if you lived in one unit of a triplex.
• If you convert your home to a rental property, you may qualify to have four years with the property that is a rental still counting as years protected by PRE. This four year extension can be further stretched in certain cases where you or your spouse needed to move at least 40 kilometers to be closer to a new place of employment.

It’s important to note that further rules and exemptions exist.

The Implications of a Partly Rented Principal Residence

The CRA recognizes situations where your property may be partly rented. One of two scenarios would apply in this case.

First, it is possible that the “divided-use” rules would apply. This effectively results in a proportionate amount of the property being eligible for the exemption, based on the personal use versus rental components. Again, a good example is living in 1/3 of a triplex, where 1/3 qualifies for the PRE.

Secondly, and more advantageous, is where the business or rental use is considered ancillary to the personal use. In such cases, the entire property is considered to qualify for the PRE. The term “ancillary” essentially means that the business or rental use of the property is secondary to the main use of the property as a principal residence. However, if structural changes are made to the property to accommodate the business or rental use, or if a capital cost allowance is claimed on a portion of the property, then the full property will not qualify as a principal residence.An example of where you could lose the full exemption is where a home is partly rented out and a part is claimed as a home office. Those two portions of the property combined might be sufficient to negate the primary purpose of the property being a principal residence.

Deductible Expenses

While you are required to include in your income the rent you receive, you are also eligible for different expenses in whole or part. You can deduct in full expenses that can be directly traced to the rental activities, provided they otherwise qualify for deductions.

Other expenses, such as interest or utilities (unless separately metered), are prorated based on the rental portion of the property. Properties are typically prorated either using a square footage allocation or by considering the number of rooms rented in the house compared to the total number of rooms.

Although you are allowed to claim the capital cost allowance (CCA, depreciation) on the rental component of the home as mentioned above, this will eliminate your ability to claim the PRE on the entire property so normally this is something to avoid.

So to return back to our original questions:

1. Renting a portion of your home is still possible while retaining your PRE provided you fulfil various conditions.
2. Yes, different expenses, similar to most “normal” real estate rentals are allowed without impacting the PRE. The primary exception is claiming CCA, which impacts your PRE.
3. You are unable to claim the PRE on a property which is primarily used for rental purposes.

Many additional opportunities and rules exist which may impact your planning and claims so please do ensure you are speaking with a qualified advisor who can provide the necessary guidance.

George E. Dube, CPA, CA is a veteran real estate investor and accountant. He has spoken, written various articles, and co-authored two books on real estate accounting. Reach George at: gdube@bdo.ca or @georgeEdube.

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