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: Does the operation of a bed and breakfast disqualify the house from the principal residence exemption?
Position: Question of fact. General comments provided.
XXXXXXXXXX S. Kim
October 22, 2009
Dear XXXXXXXXXX :
Re: Principal Residence
We are replying to your correspondence of May 6, 2009, concerning the principal residence exemption in paragraph 40(2)(b) of the Income Tax Act (the "Act").
You described a situation where a taxpayer purchased a two-storey house with four bedrooms. Depending on the season of the year, up to three of the four bedrooms are used for a bed and breakfast operation ("B&B") while one is used personally by the taxpayer. The kitchen, the dining room, the bathrooms, and the hallways are common areas shared by the taxpayer and the B&B guests.
You indicated that while no capital cost allowance has ever been claimed on the house, 75% of the total expenses related to the house, such as utilities and property taxes is being claimed as a business expense in calculating the income from the B&B operation.
You enquired whether or not the operation of the B&B would disqualify the house from the principal residence exemption in paragraph 40(2)(b) of the Act.
Written confirmation of the tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling request submitted in the manner set out in Information Circular 70-6R5, Advance Income Tax Rulings, dated May 17, 2002. Where the particular transactions are completed, the inquiry should be addressed to the relevant Tax Services Office (the "TSO"). We are, however, prepared to offer the following general comments, which may be of assistance.
The tax rules regarding the principal residence, including the principal residence exemption, are discussed in Interpretation Bulletin IT-120R6 - Principal residence.
If 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 ("FMV"). 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 same amount. If the portion of the property so changed is later converted back to use as part of the principal residence, there is a second deemed disposition (and reacquisition) thereof at FMV.
The above change-in-use rules are not applied by the CRA in respect of a principal residence if certain conditions are met. As indicated in paragraph 32 of IT-120R6, it is the CRA's practice not to apply the deemed disposition rule, but rather to consider that the 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.
In the situation you described, whether the use of the house for the B&B operation is ancillary to the main use of the house as a residence is a question of fact that can best be resolved by the TSO. Accordingly, you may wish to contact the local TSO for a determination.
With respect to the expenses deducted in computing income from a B&B operation, we are unable to comment as to whether the 75% portion is a reasonable allocation due to the limited information provided. However, we would mention that subsection of 18(12) of the Act would generally apply to the amount of expenses that may be deducted. Pursuant to subsection 18(12), a taxpayer would only be able to deduct amounts such as utilities, property taxes, and other house-related expenses to the extent of the taxpayer's income from the business.
We trust that these comments will be of assistance.
Sandy Parnanzone, Section Manager
Business and partnerships Division
Income Tax Rulings Directorate
Policy and Planning Branch
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