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.
Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.
Principal Issues:
Application of 45(1)(a), 45(3), 40(2)(b) to a situation outlined by the writer. An individual owned property from 1965 to 1989 upon which he operated a business. In 1989 he sold the main portion of the property retaining five lots; three of which were sold in the two subsequent taxation years. A capital gain was reported on the sale of the main portion of the property which was partially offset by the use of the applicable principal residence exemption. Capital gains were reported for 1990 and 1991 which pertained to the disposition of the three lots. In 1989 there was a change in use of one of the retained lots from business to personal use. The taxpayer constructed a residence on this lot, occupying it until 1994 at which time it was sold.
Position TAKEN:
When a taxpayer completely changes the use of a property from income-producing to a principal residence then paragraph 45(1)(a) of the Act will deem the taxpayer to have disposed of the property at fair market value and to have reacquired it at the same fair market value. Any gain must be included in the taxpayer's income for the year unless a subsection 45(3) election is made in respect of the property. In the event of the sale of the property while it is the taxpayer's principal residence, the existing exemption from the computation of the capital gain on disposition of a principal residence could be invoked.
If no election was made, any gain on the deemed disposition of the property must be included in income at that time and any gain from that time until actual sale would have to be reported at the time of sale.
Reasons FOR POSITION TAKEN:
IT-120R4 and previous correspondence
943333
XXXXXXXXXX D. Zion
Attention: XXXXXXXXXX
April 27, 1995
Dear Sirs:
Re: Capital Gains and Principal Residence Exemption
We are writing in response to your correspondence of November 2, 1994 and March 15, 1995 regarding the tax implications resulting from a situation outlined therein. We apologize for the delay in replying.
The specific issues which you have raised in your request appear to relate to a factual situation involving specific taxpayers. The tax implications inherent in such a transaction can be determined only by reviewing all the relevant facts and documentation. Such review should be made by the relevant District Tax Services office and, accordingly, the following comments are of a general nature.
In the type of situation with which you are concerned, an individual owned property from 1965 to 1989 upon which he operated a resort. In 1989 he sold the main portion of the resort retaining five waterfront lots, three of which were sold in the two subsequent taxation years. A capital gain was reported on the sale of the main resort which was partially offset by the use of the applicable principal residence exemption. Capital gains were reported for 1990 and 1991 which pertained to the disposition of the three waterfront lots. You have also advised that in 1989 there was a change in use of one of the retained lots from business to personal use. The taxpayer constructed a residence on this lot occupying it until 1994 at which time it was sold.
You indicate that, in your view, the capital gain resulting from the sale of the principal residence in 1994 would be fully exempt from taxation through the use of the principal residence exemption provisions contained in paragraph 40(2)(b) of the Act. This view is based on the reasoning that when there is a change in use of property subsection 45(1) of the Act is applicable and thus the taxpayer was deemed to "reacquire" that portion of the property at the time of the change in use of that portion. Accordingly, you put forth the argument that the years for which the individual would be eligible to designate the principal residence for the purposes of 40(2)(b) would be 1989 to 1994.
As outlined in paragraph 34 of Interpretation Bulletin IT-120R4, Principal Residence, when a taxpayer completely changes the use of a property from income-producing to a principal residence then paragraph 45(1)(a) of the Act will deem the taxpayer to have disposed of the property at fair market value and to have immediately reacquired it at the same fair market value. Any gain must be included in the taxpayer's income for the year unless a subsection 45(3) election is made in respect of the property. An election under subsection 45(3) of the Act is only available where the property in question does in fact become the "principal residence" of the taxpayer by virtue of being occupied as such and where no other property has been designated in the years in question. In the event of the sale of the property while it is the taxpayer's principal residence, the existing exemption from the computation of the capital gain on disposition of a principal residence could be invoked.
If no election pursuant to subsection 45(3) of the Act was made at the time in change in use of the property, any gain on the deemed disposition of the property (in the situation described by you, the waterfront lot on which the home was constructed) must be included in income at that time and any gain from that time until actual sale would have to be reported at the time of sale.
Should you have any questions regarding a particular taxpayer and the reassessment of a previously filed tax return you should contact the audit division in the tax services office serving the area in which your client resides. Upon a review of all the facts and documentation they will be in a position to advise you of the Department's position regarding the tax repercussions resulting from a particular transaction.
We trust our comments will be of assistance to you.
Yours truly,
P.D. Fuoco
for Director
Business and General Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch
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