House Flipping Rules in Canada: What You Need to Know
Published on 29 August 2022, 07:22:56 AM
House flipping has become subject to a new rule in Canada that could have significant tax implications. The rule was introduced in Budget 2022 and became law through Bill C-32, which received Royal Assent on December 15, 2022. Its purpose is to address individuals who classify profits from flipped residential properties as capital gains to avoid paying taxes. It’s crucial to understand this rule, as the Canada Revenue Agency (CRA) has increased audits related to such transactions, which could result in substantial penalties and interest for non-compliance.
The new rule applies to the sale of flipped residential properties that occur on or after January 1, 2023. Typically, gains on residential property sales are treated either as fully taxable business income or as a capital gain, which is 50% taxable. If the property qualifies as a principal residence, the gain may be reduced or eliminated by claiming the principal residence exemption.
Aside from the new residential property flipping rule, there are no specific guidelines in the Income Tax Act to determine whether the gain on a residential property sale should be classified as business income or a capital gain. Instead, it’s determined on a case-by-case basis, considering factors such as the taxpayer’s intention at the time of purchase, the nature of their business or profession, the extent of financing through borrowed money, the holding period of the property, and the motivations behind the sale. While this list is not exhaustive, the closer the individual’s business or occupation is to real estate transactions, the more likely the gain will be considered business income by the CRA.
The residential property flipping rule deems gains from the sale of a flipped property as business income, making them fully taxable. The principal residence exemption cannot be applied to reduce the tax liability. It’s important to note that this rule only applies to gains and individuals cannot report a business loss on a flipped property.
A flipped property is defined as a housing unit located in Canada, not categorized as the taxpayer’s inventory, and owned for less than 365 consecutive days before its sale. This definition also includes the rights to acquire a housing unit, extending the rule to cover gains from assignment sales. In these cases, individuals who hold pre-construction property rights and sell them for a profit within 12 months will be deemed to have earned business income for tax purposes. The 12-month holding period resets once ownership of the property is transferred to the individual. The expanded definition received Royal Assent on June 22, 2023, and applies retroactively to dispositions on or after January 1, 2023.
Exceptions to the rule may apply in situations involving the death of the taxpayer or a related person, the joining of a related person’s household, the breakdown of a marriage or common-law partnership, personal safety threats, disability or serious illness, eligible relocations, involuntary termination of employment, insolvency, or property destruction/expropriation against the taxpayer’s will. However, even if one of these exceptions applies, or if the property was held for 365 days or more, whether the gain is taxed as business income or a capital gain remains a question of fact.
Failure to report a gain on the sale of a residential property as business income when required may result in a gross negligence penalty of 50% of the additional taxes owing, along with interest charges. Taxpayers may be eligible for penalty relief under the CRA’s Voluntary Disclosure Program if they wish to report income omissions or correct previous errors, provided no CRA enforcement action has already commenced.
It’s essential to consider potential GST/HST implications when selling a property. Depending on its use between the original purchase and sale, the taxpayer may be required to charge GST/HST. If the taxpayer qualifies as a “builder” under the Excise Tax Act, the property may also be subject to GST/HST on the sale, particularly if substantial renovations were undertaken. Additionally, Budget 2022 introduced a change whereby the sale of a residential condominium or single unit residential complex through assignment is taxable for GST/HST, regardless of the reason for acquiring the property.
In summary, the new rule assumes that a residential property bought and sold within a year is a flipped property, making the profits fully taxable as business income, unless one of the specified exclusions applies. However, if the residential property flipping rule doesn’t apply, determining the tax treatment will still require consideration of case law and the relevant facts.
