Example - Disposing of a principal residence partly used for earning income
This example illustrates some of the topics that are discussed in this guide. This example will show you how to:
- treat the sale of property that was used partly as a principal residence and partly for earning income.
- report a capital gain on the disposition of property that includes land and a building.
- calculate a recapture of capital cost allowance (CCA) or a terminal loss on the disposition of depreciable property.
In November 1988, John bought a duplex for $125,000. According to a municipal assessment completed just before the purchase, the entire property was valued at $100,000. The land was valued at $25,000 and the building was valued at $75,000. From the date he purchased the duplex, John lived in the lower half and rented out the upper half. Based on the property's total number of square metres, he determined that the portion he used to earn rental income was 40%.
On July 28, 2020, John sold the property for $175,000. He incurred expenses of $10,500 to make the sale. According to a recent municipal assessment, the entire property was now valued at $150,000. The land was worth $30,000 and the building was worth $120,000.
Any gain on the part of the property that John used as his principal residence will not be taxed because he used that part of the property as his principal residence for all the years he owned it. John has to designate the part of the property that was his principal residence by ticking box 1 at line 17900 on page 2 of Schedule 3, Capital Gains (or Losses) in 2020, and by completing page 1 of Form T2091(IND), Designation of a Property as a Principal Residence by an Individual (Other Than a Personal Trust).
John has to calculate the capital gain on the part of the property that he rented out. He also has to determine if he has a recapture of CCA or a terminal loss on the rented portion of the building. For this reason, he will break down the rental portion of the purchase price, the selling price, and the related expenses between the land and the building. Keeping in mind that 40% of the property was used for rental purposes, John completes the following calculations:
1. He divides the rental portion of the purchase price between the land and the building, based on the municipal assessment at the time of the purchase:
- Building (40%) x ($75,000 ÷ $100,000) x $125,000 = $37,500
- Land (40%) x ($25,000 ÷ $100,000) x $125,000 = $12,500
Because the breakdown between the land and the building was not shown on his purchase agreement, John uses the municipal assessment in effect at the time of the purchase. John would have completed this calculation at the time he purchased the property to determine the amount of CCA he could claim on the part of the building he rented out.
2. He divides the rental portion of the selling price between the land and the building, based on the municipal assessment at the time of the sale:
- Building (40%) x ($120,000 ÷ $150,000) x $175,000 = $56,000
- Land (40%) x ($30,000 ÷ $150,000) x $175,000 = $14,000
The breakdown between the land and the building was not shown on John's sale agreement. Because no renovations were made to the building since the last municipal assessment, John can use the municipal assessment that was in effect at the time of the sale.
3. He divides the rental portion of the expenses relating to the sale between the land and the building, based on the municipal assessment at the time of the sale:
- Building (40%) x ($120,000 ÷ $150,000) x $10,500 = $3,360
- Land (40%) x ($30,000 ÷ $150,000) x $10,500 = $840
John can now determine if he has a recapture of CCA or a terminal loss on the rented part of the building. The undepreciated capital cost (UCC) of the portion of the building used for rental purposes at the beginning of 2020 was $34,728. From the UCC, he subtracts one of the following amounts, whichever is less:
- the selling price of the rented part of the building minus the related outlays and expenses: $52,640 ($56,000 - $3,360)
- the purchase price of the rented part of the building: $37,500
UCC at the beginning of 2020 ($34,728) minus purchase price ($37,500) = Recapture of CCA (-$2,772).
To help him complete the above calculations, John uses the CCA schedule on the back of Form T776, Statement of Real Estate Rentals.
John can now calculate his capital gain. To do this, he completes the section called "Real estate, depreciable property, and other properties" in Schedule 3, Capital Gains (or Losses) in 2020. He reports the sale of the rental property by entering $70,000 ($56,000 + $14,000) as the proceeds of disposition on line 13599, and $15,800 ($15,140 + $660) as the capital gain on line 13800.
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