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How to Calculate Tax Payable on the Sale of Your Rental Properties?

Hi fellow Canadian Real Estate Investors,

It was my birthday weekend last week.

facebook_1470672080045Erwin arranged a surprised celebration party on Sunday with my best friends.

He knows that I’m a geek so we once again went to an escape room. This time we manage to escape in less than 35 minutes and that was the fastest time I had ever done!

We even made the best escape time for the week! Woo-hooh!

Now onto this week’s topic.

The Tax Man is often the most ignored partner in our business.

He usually gets a big chunk of our return.

For those of you who are considering selling their principal residence, you can be reassured that you likely won’t have to pay any tax on your home provided that you meet certain conditions.

For those of you who are considering selling one of their investment properties, the tax implication can be a bit more complicated.

There are two steams of income you would need to pay tax on: (1) capital gain and (2) recapture.

Capital gain

This is an easy one. Let’s use an example to illustrate.

Say you purchase a property for $250,000, and you sell it for $350,000 and assuming the property is buy and hold.

Capital gain = $350,000 – $250,000 = $100,000.

In Canada, only 50% of capital gain is taxable, hence 50% of $100,000 is taxable = $50,000.

If you own the property in your own personal name, this $50,000 is added on top of your other income and is subject to the marginal tax rate for the respective tax brackets you are in.

For simplicity’s sake, we use the HIGHEST marginal tax rate in Ontario in our calculation – 53.53%, round it down to 50%.

Hence tax liability is roughly $50,000 x 50% = $25,000.

Keep in mind that if you make less than $220,000 personally BEFORE you add in this $50,000, you will be subject to lower tax.

$25,000 is MAXIMUM you would have to pay on the capital gain.

If you own the property in your corporation, the numbers would pretty much the same. 50% is taxable but the taxable portion is considered passive income.

Passive income is taxed at slightly over 50%.   Hence, you do the same calculation as above. Take $100,000 x ½ (50% taxable) x 50% (rough tax rate on passive income) = $25,000.

Next time when you are trying to estimate the amount of taxes you would owe when you sell a property, simply take the gain and multiply it by 25%. This will give you a really good idea of how much you would have to pay.

Recapture

As a taxpayer, you are allowed to claim the wear and tear on the property to defer your rental income.

The wear and tear is called capital cost allowance.

Use the same example as above, you purchased a property for $250,000.

Assume that 90% of the value belongs to the building and 10% of the value belongs to the land, capital cost of the building is therefore 90% x $250,000 = $225,000.

You can then claim $225,000 x 4% against your net rental income every year to defer the tax. The amount of claim is capped by the amount of net rental income you make from your portfolio.

In a previous blog posts that I wrote last year, I discussed whether you should use capital cost allowance to defer your rental income before. Feel free to check this out.

What’s the catch then?

You will have to take all the deductions you claimed throughout the years into income the year you sell your rental property!

For those of you who are unfamiliar with the concept, concept of capital cost allowance is similar to that of RRSP. You deduct the contribution you make against your income but you will have to report them in your income the year you take it out.

Say year 1 you had $5,000 net income after deducting all the qualified expenses against the rental income. You can take the lower of:

  • $225,000 x 4% x ½ (first year only ½ is deductible) = $4,500
  • $5,000

In this case, you can choose to deduct $4,500. But this also means that the year you sell it you will have to take this $4,500 into your income.

Now year 2 you had the same net income of $5,000. You can again take the lower of:

  • You can only take 4% on the undepreciated amount ($225,000 – $4,500) x 4% = $8,820
  • $5,000

In year 2, you will take $5,000 of capital cost allowance.

Say year 3, you decide to sell and it was sold for $350,000.

On top of the capital gain tax that you would have to pay, you are also required to take all the capital cost allowance into income.

In our example, you’ve taken $4,500 in year 1 and $5,000 in year 2, total of $9,500.

You will have to take $9,500 into income.

Similar to the calculation of capital gain tax above, we use the highest marginal tax rate of 50% to estimate the tax.

Therefore, tax payable on recapture is 50% x $9,500 = $4,750.

Total tax liability = capital gain tax + recapture tax = $25,000 + $4,750 = $29,750.

Are there ways to reduce these tax liability?

Absolutely!

Recapture tax can be reduced by using capital cost allowance of another property against the property being sold.

If you don’t have a second one, you can consider buying another property in the same calendar year.

Capital gain taxes can be reduced by any capital assets that you own that already have unrealized capital losses, such as, loss on any stock or mutual funds in any unregistered accounts.

Until next time, happy Canadian Real Estate Investing and enjoy the heat.

Cherry Chan, CPA, CA

Your real estate accountant

56 replies
  1. Syed Kamal
    Syed Kamal says:

    In the example you used the capital gain was $100,000. What if I developed basement, made repairs to drainage system, bought furniture and appliances for the rental home etc etc. Would these costs not be expenses deductible against capital gain. What kind I be required to have at hand.

    Reply
    • Cherry
      Cherry says:

      If you made repairs to drainage system and they were truly repairs, expenses should be considered a write off against rental income. On the other hand, if the expenses were incurred to improve the property, these expenses would be added to the cost of the building, and you can claim them against the future sale price (and also claim capital cost allowance on these expenses).

      For all the expenses, you are required to keep all the receipts incurred.

      Reply
  2. Rakesh
    Rakesh says:

    Some one buy home plot for 2,00,000 now selling it 9,00,000 profit is 7,00,000. Now how much he is liable to pay as tax to BC govt.

    Reply
    • Cherry
      Cherry says:

      Rakesh, it’s a complicated question. If you buy the house with the intention to flip, you are liable for tax on $700K. Depending on the ownership structure, you can pay as low as 15% and as high as 50%.

      If the intention is to buy the house for long term investment and earning rental income, you can use the capital gain calculation done in this blog post for your tax estimate.

      If you purchased the home and have lived there as your primary residence, your tax balance can be nil.

      So depending on your situation and make sure you consult with a professional accountant for your particular situation for the proper advice.

      Reply
  3. Colleen Smith
    Colleen Smith says:

    You state that recapture tax can be avoided by using the UCC of another property or by buying another property in the same year. This deals with the concept of pooling assets in one class. However, I’ve been told by a tax person that rental properties in excess of 50k have to be put in separate classes and that when a property is sold, tax has to be paid on any recapture, even though the taxpayer owns other properties with UCC balances or replaces the asset in the same calendar year. What is the correct answer?

    Reply
    • Cherry
      Cherry says:

      Hi Colleen, rental income is viewed on a portfolio basis and hence CCA taken on one property can be used to offset against rental income incurred on another property. Recapture is viewed as rental income and CCA on a new property can then be used to reduce the rental income (partly created by recapture) and provide further deferral.

      Hopefully this helps.

      Reply
    • Cherry
      Cherry says:

      Generally speaking residential rental property resale is not subject to HST. I would still check with a qualified accountant with your specific situation though.

      Reply
  4. Colin
    Colin says:

    How does “alternative minimum tax ” work. If I sell a rental property I paid 250,000.00 for 1,500,000.00 in BC do I deduct 250,000.00 from 1,500,000.00 for 1,250,000.00 capital gain. Then pay tax on 625,000.00 at 50% for a tax bill of 312,500.00. I would then add this to my income of net 63,000.00 for total of 375,500.00.

    Are these figures somewhat correct as I was told ” alternative minimum tax ” may boost my tax rate up to around 65% which frankly scares me.

    Reply
  5. Laurice
    Laurice says:

    What happens with capital gains if you sell a current rental and upgraded to a more expensive rental. For example, selling a 500000 rental to purchase 960000 rental. Is there capital gain in this situation? Or not for an upgrade

    Reply
  6. Charles
    Charles says:

    Hi Cherry, a question for you. My wife and I paid $125,000 for our primary residence years ago. Today, it value is about $350,000. We are considering moving and renting it out. Suppose we sell it 3-5 years out and the value has not increases at all. My guess is we would not have any capital gain to report, if we hired a qualified appraiser at the time of rental to verify the entire gain in value was when we occupied it. Is that correct?

    Reply
  7. Winston Yee
    Winston Yee says:

    Hello Cherry
    I have a 2nd house that I purchased for my parents to live in, no rental income
    Currently my dad is now too old to climb the steps and we are thinking to sell and buy a condo for them.
    What are my tax implications to enact this plan.
    Cheers
    Winston

    Reply
  8. Jim Bloor
    Jim Bloor says:

    I have a house I rent out but have no other property. I live with my father is the house considered a rental or principle property I have heard both

    Reply
    • Cherry Chan, Real Estate Accountant
      Cherry Chan, Real Estate Accountant says:

      Number 1 criteria to claim primary residence is that you have to live in the property.
      If you don’t live in the property, you are not allowed to claim the property as your primary residence.

      If you live in the property for a period of time, you can potentially designate the property as your primary residence, or even four more years. Depending on your situation. I would highly recommend you to consult someone who know real estate tax to give you advice.

      Reply
  9. Dan
    Dan says:

    Hi, great blog post! I had a question about selling a rental property at a loss. If I purchased a place for $500K, and then sold it for $425K, I have a loss of $75K. Am I able to claim the loss against my income for tax savings? Thank you!

    Reply
  10. Krissy
    Krissy says:

    What happens if I remortgaged the property at one point? I bought for $250,000 16 years ago. Mortgage is 269,000 and it’s worth $420,000. How does one calculate capital gains?

    Reply
  11. Marc
    Marc says:

    Hi Cherry,
    Thanks for the great website and valuable information. I would like to ask you I currently own an investment property and It is not a rental property. I have not generated any rental income. I bought the property to renovate and sell. I have owned it for just over a year and have upgraded it for the purpose of flipping it for a profit this year. I had purchased the condo for $322K, and I anticipate selling it for $400K. Assuming I make a gross profit of $78K..What deductions can I claim specifically?..I’m aware that I pay a 50% capital gain on my net profit. I understand I can claim my land tax, condo fees, mortgage interest,closing costs,utilities, insurance, legal fees, real estate commissions, renovation upgrades. Is there anything else I can deduct that would increase the adjusted cost base in order for me to pay less as a capital gain?
    I appreciate any insight and advice you can share 🙂
    Thank you Marc

    Reply
    • Cherry Chan
      Cherry Chan says:

      From your description, this sounds like business income. You should really talk to a professional advisor to make sure you are filing your tax properly.

      Business income is 100% taxable.

      Reply
  12. ray
    ray says:

    hi i bought a income property under a numbered company.i bought it for 800k sold it for 2.9 mil. 50% paid at closing. 50% in 5 years
    so do i pay tax on 50%now and 50% taxes in 5 years

    Reply
    • Cherry Chan
      Cherry Chan says:

      Hi Ray, there are deferral opportunity definitely. It is determined on a case by case basis. Be sure to consult a professional accountant to recognize the tax impact.

      Cherry

      Reply
  13. David
    David says:

    Hi Cherry. My mother inherited a house from my grandmother, my mother passed away this year 2017 and we need to have the house transferred into my fathers name whereas his name was never on title. The property was transferred into my mothers name in June of 2009 and has always been a rental property since transfer. This is a second property whereas they also maintained their principal residence. The only major renovations\expenses that incurred was in 2009-2010 when it was redone for the renters. My questions are; how are the capital gains calculated upon transfer to my fathers name and should we strongly consider digging up receipts for the last eight years for a recapture as you have explained?

    Reply
  14. Chirag
    Chirag says:

    Hi Cherry,

    Great post. I had a quick question on calculating capital gains tax on the sale of a rental property. If I bought for $250k and sell for $400k would I pay the tax on 50% profit of the $150k difference (i.e. $75k) or would the profit be calculated on the difference post land transfer, legals, closing costs etc. Also, if the rental property is in both mine and my wife’s name, I assume the profit is split and the capital gains tax is calculated according to each of our marginal tax rates. Is this correct?

    Thank you.

    Reply
    • Cherry Chan
      Cherry Chan says:

      All expenses incurred that are related directly to the sale can be deducted against the sale price. In my example, we often ignore these closing costs to simplify the example.

      You’re right that only 50% is taxable, if your property is a capital property.

      In terms of ownership between you and your wife, it goes to how you have been reporting it and who truly owns the property.

      Good luck!

      Reply
      • Tina
        Tina says:

        Hi Cherry,

        what about expenses that occur when purchasing a property. Can those be deducted from the sale price (or to increase the purchase price) and reduce the capital gain? I bought an apartment and had around $30000 in legal fees, lender fees (had to use private lender and then traditional bank institution) and insterest, land transfer tax and similar… Those expenses were not used to reduce rental income in the year apartment was purchased and the following year rental income was only $21,000.

        Thank you,

        Tina

        Reply
  15. Nancy
    Nancy says:

    Hi Cherry, I came across this blog while surfing for information on selling a rental property and was sure glad I did. I was told that if you have a rental property and stop renting and move into it and live there for 5 years and then sell that you won’t have to pay any taxes on the property. Are you able to confirm if this is true? I’m thinking of retiring in a few years, selling my residential property in Ontario then giving the tenants notice to move out of my rental property in NL and moving there myself for 5 years and then selling. Can I avoid paying taxes on the property if I do that? Please advise. Thanks in advance.

    Reply
    • Cherry Chan
      Cherry Chan says:

      Hi Nancy, primary residence exemption is a yearly designation. You can only designate the property as your primary residence at any given year.

      If you live in your Nova Scotia rental property in the five years, you can designate those five years as your primary residence, so no tax would be incurred on that five years.

      But for the years that you rent it out, you will still have to pay tax on it.

      There are some exemption and option available. Be sure to consult your accountant before making your move. It’s a big move, from Ontario to Nova Scotia.

      Have a great weekend!

      Reply
  16. Tamara
    Tamara says:

    Hi Cherry,
    Do you happen to have a source for the $25000 maximum for capital gains when personal income is less than $220000? I can’t seem to find this info anywhere else. Thanks!

    Reply
      • Tamara
        Tamara says:

        Maybe I’m misunderstanding something… could you please explain this from the text above:

        “Keep in mind that if you make less than $220,000 personally BEFORE you add in this $50,000, you will be subject to lower tax.

        $25,000 is MAXIMUM you would have to pay on the capital gain.”

        Reply
  17. J. AIRD
    J. AIRD says:

    joint rental property deemed sold upon death of one of the owners. Since the diseased person never got the funds but will owe taxes because of the deemed income is there a way for the business to pay the tax and use it as a write off.

    Reply
    • Cherry Chan
      Cherry Chan says:

      Tax is not a write off, assuming I understand your questions properly.
      When an owner passes away, there is a deemed disposition at fair market value. There are specific rollover sections that could apply for the spouse to inherit the property but I again encourage you to seek professional advice.

      Reply
  18. William Lipscombe
    William Lipscombe says:

    Hi
    My wife and i bought a condo in Florida in 2008 for 170 000 $CAD, used it until 2012 and then rented it out because the market had fallen and we wold have taken a big loss selling it at that time. Its value in 2012 was approx 125 000$CAD. We finally sold it in January 2017 for 141 000$CAD, taking a 29 000$CAD loss from the original purchase price. We never took depreciation over the 4 year rental period. The US tax consultant told us that we neither had a loss nor a gain in this sale, so no capital gain.
    What about when I file my taxes in Canada, does the same apply?
    Thanks

    Reply
    • Cherry Chan
      Cherry Chan says:

      Hi William, unfortunately I can’t provide a straight answer. A few questions come to mind and I encourage you to speak to a professional accountant to make sure you are only pay appropriate fair of tax.

      One thing comes in mind is primary residence exemption, conversion rate, etc. I won’t have an answer for your question unless we do your personal tax return and look at all the numbers.

      Reply
  19. Julie Smalley
    Julie Smalley says:

    Thank you for all the information. One question…is the real estate commission paid considered a closing cost and one that can be deducted in order to calculate capital gains?

    Reply
  20. Kate
    Kate says:

    If I own three properties that are held in a corporation and we wish to move into one for a period of about 5-7 years. Would we be better off to take only the ONE property out of the corporation at this time? Meaning would I have to pay capital gains twice if I took all three into our private name then later sold them?

    Example. 700,000 in prop. 117000 purchase price. No capital cost allowance taken over 15 years of ownership. Value 1st prop 400,000 second 125,000, third 140,000.

    What is the better route tax wise? Sell all three to private name? our intention is to use the income from the properties as retirement income. As such I assume any profits will be taxed at the corporate rate then taxed again at the personal rate? What should we do? Take all out at once pay the hit then just pay the private taxation on the remaining rental properties?

    Reply
  21. Eskay Enn
    Eskay Enn says:

    Hi Mr Chan
    my wife and I became Non resident Canadians in Dec 2014 and rented out our one and only primary residence (bought in Nov 2007) in the same month. We would now like to sell our residence. would I be liable for capital gain tax and how should I calculate my capital gain.

    Many thanks

    Reply
      • Eskay Enn
        Eskay Enn says:

        Thank you for your prompt reply. Would the Capital gain be calculated based on the the current value LESS the value of the property on the day I became a non resident (Dec 2014)

        or

        The current value LESS the value at purchased the property at (Nov 2007).

        Thank you once again

        Reply
  22. George L
    George L says:

    Hi Cherry,
    We bought a house in Ontario in 2006, and it was our primary residence until 2015. Then we moved and rented out the house. In 2017 we sold it. How can we calculate the capital gain? It seems the rule is that the tax applies to the increase from 2015 to 2017, but we do not know the price of the house in 2015. How can we calculate the capital gain in the way it is acceptable to the taxman?

    Reply
    • Cherry Chan
      Cherry Chan says:

      We usually advise our clients on how the capital gain is calculated and do an analysis to see if there’s any opportunity to shelter additional capital gain. You can schedule a consultation through our office.

      Reply
  23. Paul F
    Paul F says:

    Hello Cherry. My wife and I bought a home in BC approx 20 years ago as a primary residence ($210,000.) We purchased a second home approx 5 years ago, and that became our primary residence. We have rented out the first home for the last 5 years and plan to sell for approx $450,000. Is our Capital Gain $240,000 or closer to $40,000 (based on primary residence for 15 years?)

    Reply

Trackbacks & Pingbacks

  1. […] If you sell a property and make substantial gain during the year, make sure you are putting aside sufficient amount of money to pay your taxes at the end of the year. You can refer to how to estimate the tax liability in this blog post. […]

  2. […] Based on today’s tax law, 50% of this capital gain is taxable, so you have $5million taxable income in your personal name. (You can easily refer to my previous blog post on how to calculate tax payable on sale of properties here.) […]

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