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.
SPECIALTY RULINGS DIRECTORATE N.R. Mitchell 957-2134
SUBJECT: Principal Residence;
Subsection 45(3) of the Income Tax Act
This is in reply to your memorandum of January 6, 1988, and various enclosures concerning a possible problem of circularity in the application of subsection 45(3) and paragraph 54(g) of the Income Tax Act (the "Act").
Subsection 45(3) of the Act enables a taxpayer who has changed the use of a housing unit from income-producing or business to personal use (i.e., by commencing to "ordinarily inhabit" the property) to defer recognition of any capital gain that would otherwise be triggered by subparagraphs 45(l)(a)(ii), (iii) and (iv) of the Act. It is your understanding that one of the conditions that must be met before an election under subsection 45(3) of the Act can be made is that the property "becomes" the principal residence of the taxpayer. You observe that paragraph 54(g) of the Act stipulates that in order to be considered a principal residence of the taxpayer for a year, the taxpayer must designate the property as such in the prescribed form. That form (T2091) is to be filed in the return of income for the year in which the property is disposed of. You conclude that there is a problem of circularity in that, as you put it, "... under 54(g)(ii) you do not have a principal residence until you elect under 45(3) but one of the prerequisites of 45(3) is that you can only elect on a property that has become your principal residence. To put it another way, under 45(3) a property must become your principal residence before you can elect so that you meet the requirements of 54(g)(ii)".
Our understanding of the relevant provisions is rather different. As we see it, in cases of this nature, a taxpayer owning the appropriate type of property (described in the preamble to paragraph 54(g) of the Act) is not put in a position to designate the property in the first place by virtue of subparagraph 54(g)(ii) - which refers to both 45(2) and 45(3) elections - but rather by virtue of subparagraph 54(g)(i) of the Act. In other words, it is the fact that he has "ordinarily inhabited" the property that allows the taxpayer to designate the property under subparagraph 54(g)(iii) of the Act. That designation itself need not be made until the property is actually (or next) disposed of. In our view, subparagraph 54(g)(ii) of the Act is really only relevant in the context of 45(3) elections where the taxpayer wishes to designate the property as his principal residence for up to four years prior to the change to personal use. This allows the taxpayer to exempt any capital gains accrued on the property during a period in which he did not ordinarily inhabit the property and could not come within subparagraph 54(g)(i) of the Act. As we read it, subsection 45(3) of the Act does not stipulate that a property must become (i.e., be designated) a principal residence before subsection 45(3) can apply to allow the non-recognition of the deemed disposition on the change in use. We would maintain that subsection 45(3) of the Act can be satisfied provided the property is eventually designated as the principal residence of the taxpayer for at least one year that it was owned by the taxpayer. In our view, there is nothing in the legislation to require that designation be made at a point earlier in time than that at which an election under subsection 45(3) is sought to be made effective.
Should the taxpayer not designate the property as his principal residence at the time he disposes of the property, subsection 45(3) would not be available to him, even if he had previously notified the Minister of his intention to elect under subsection 45(3). Accordingly, the taxpayer would be deemed to have disposed of the property in the year of the change in use and the capital gain (if any) accrued to that date would have to be recognized in that year.
Director General Specialty Rulings Directorate Legislative and Intergovernmental Affairs Branch
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