Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.
Principal Issues: (1) Whether there was a change of use of a residence. (2) Whether cost of replacing roof is capital or current. (3) Whether CCA deductions can be removed from previous tax returns.
Position: (1) Yes. (2) Question of fact. (3) TSO determination based on guidelines in IC 84-1.
Reasons: (1) Based on the facts and our administrative position in par. 32 of IT-120R6. (2) Based on par. 4 of IT-128R. Insufficient facts were provided to conlcude. (3) see above position.
XXXXXXXXXX 2004-008074
P. Massicotte, CA, M.Fisc.
October 15, 2004
Dear XXXXXXXXXX:
Re: Principal Residence
We are writing in reply to your email of May 26, 2004 requesting our views in connection with the availability of the principal residence exemption under the Income Tax Act (the "Act") in a situation where a residence is partially used for rental purposes. You mention that although the upper floor of the residence is being rented, the residence is mainly used as a principal residence by the owner. You also mention that the roof of the residence was replaced a number of years ago and a deduction for capital cost allowance ("CCA") has been claimed by the owner for the last 3 taxation years in computing income from the rental activities.
You are concerned about the owner's ability to access the principal residence exemption provided in paragraph 40(2)(b) of the Act in the above circumstances and ask whether the owner of the residence was entitled to claim any deduction in connection with the cost of replacing the roof. In addition, considering that the owner has already claimed a deduction for CCA in respect of these costs, you ask whether the owner can now amend the returns filed for the last 3 taxation years to remove the CCA claimed.
The circumstances outlined in your letter relate to a specific fact situation. As explained in Information Circular 70-6R5, dated May 17, 2002, this Directorate does not comment on transactions involving specific taxpayers except by way of an advance income tax ruling in respect of proposed transactions. When the situation involves a specific taxpayer and a completed transaction, the question should be directed to the appropriate Tax Services Office for their views, along with all relevant facts and documentation. However, we are prepared to provide you with the following general comments.
As indicated in Chapter 4 of the Rental Income Guide for 2003 (T4036) and in paragraphs 30 to 32 of Interpretation Bulletin IT-120R6, Principal Residence, where a taxpayer has partially converted a principal residence to an income-producing use, paragraph 45(1)(c) of the Act provides for a deemed disposition of the portion of the property so converted (such portion is usually calculated on the basis of the area involved) for proceeds equal to its proportionate share of the property's fair market value. Paragraph 45(1)(c) of the Act also provides for a deemed reacquisition immediately thereafter of the same portion of the property at a cost equal to the very same amount.
It is generally our position that the deemed disposition rule described above applies only where the partial change in use of the property is substantial and of a more permanent nature, such as where there is a structural change. Examples where this occurs are the conversion of the front half of a house into a store, the conversion of a portion of a house into a self-contained domestic establishment for earning rental income (a duplex, triplex, etc.), and alterations to a house to accommodate separate business premises. In these and similar cases, the taxpayer reports the income and may claim the expenses pertaining to the altered portion of the property (a reasonable portion of the expenses relating to the whole property) as well as CCA on such altered portion of the property.
In particular, it is our practice not to apply the deemed disposition rule, but rather to consider that the entire property retains its nature as a principal residence, where all of the following conditions are met:
(a) the income-producing use is ancillary to the main use of the property as a residence,
(b) there is no structural change to the property, and
(c) no CCA is claimed on the property.
Where the above conditions are met, the taxpayer reports the income and may claim the expenses (other than CCA) pertaining to the portion of the property used for income-producing purposes. Where however the taxpayer commences to claim CCA on the portion of the property used for producing income, as in the situation described in your letter, it is our practice to apply the deemed disposition rule as of the time at which the income-producing use commenced.
With respect to your first enquiry, under the Act current expenses such as repairs and maintenance for the portion of a property used to earn income are generally deductible in computing the income for the year they are incurred whereas capital expenditures are added to the cost of the building, for which CCA can be claimed at legislatively prescribed rates (see also paragraph 33 of IT-120R6 where there has been a partial change in use of a property). The Act does not define what constitutes a capital expenditure, as opposed to a repair of a current nature. However, the courts have identified certain factors that should be considered in making such determinations. These factors are explained in Interpretation Bulletin IT-128R, Capital Cost Allowance - Depreciable Property. Whether an expenditure is on account of capital or income is a determination that can only be made after all the relevant facts of each particular case have been considered. Generally, as indicated in paragraph 4 of IT-128R, where the result of the expenditure is to materially improve a property beyond its original condition, such as when a new floor or a new roof is replaced by one that clearly is of better quality and greater durability, then the expenditure is regarded as capital in nature. Whether or not the market value of the property is increased as a result of the expenditure is not a major factor in reaching a decision. These guidelines have been thoroughly examined and historically supported by the courts in Canada.
With respect to your second enquiry, a request for a recalculation of "permissive deductions" (such as CCA) claimed in calculating income of previous taxation years is acceded to only in the circumstances set out in Information Circular 84-1, Revision of Capital Cost Allowance and Other Permissive Deductions. Permissive deductions are distinguished based on their optional nature and the fact that CCA claimed or not claimed represents a choice made by the taxpayer at the time of filing the tax return. A decision concerning a request for such an adjustment can only be made at the relevant Tax Services Office.
Copies of Information Circulars, Interpretation Bulletins and Guides referred to in this letter may be found on our website at: www.cra-arc.gc.ca.
We trust the above comments are of assistance to you.
Yours truly,
Milled Azzi, CA
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Planning Branch
All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5
© Her Majesty the Queen in Right of Canada, 2004
Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistributer de l'information, sous quelque forme ou par quelque moyen que ce soit, de facon électronique, méchanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.
© Sa Majesté la Reine du Chef du Canada, 2004
Email this Content