Dream Big! And What Every Real Estate Investor Ought to Know About Repairs & Maintenance Expense (Part 2)

As a mother of two children under the age of 3, a small business owner, and a real estate investor, I often find myself lacking the time to read.

Audiobooks are a life saver. It is the only way I can get some new knowledge in and get inspired and motivated.

My recent favorite is Elon Musk written by Ashlee Vance.

I am the first to admit that I didn’t know much about Elon Musk. I didn’t even hear his name until his recent appearance on Big Bang Theory.

That was the first time I googled him.

I talked about dreaming big and aim high in the past, but nothing compared to Elon Musk’s goals.

“Shoot for the moon. Even if you miss, you’ll land among stars!”

Elon Musk shoots for Mars, the planet Mars. Right now he’s really landing among the stars. His company is sending a rocket to space once a month. His ultimate goal is to die on Mars.

He also aims to transform human’s obsession over the use of oil. He created Tesla, which manufactures electric cars that can accelerate from 0 to 60 miles in 3.2seconds.

He also made the patent for Tesla’s electric car publicly available. He wants other manufacturers to produce different cars.

He also cofound Solar City, a company that transformed the solar panel industry in the United States.

His goals and achievements made my goals look small by comparison.

Even though I likely don’t have the ability to transform human history, this book inspired me to make a difference.

This Easter, our Hamilton Basket Brigade is going to feed another 120 families. It’s never too late to participate. We always welcome more donations and more volunteers.

This is our little way to make a small difference to society. If you are interested in helping out, either with money or time, please email us at [email protected] for more information.

Last week, we discussed the tax impact of repairs expense versus capital expense. Repairs are 100% deductible and capital expense is only 50% deductible.

Of course, as real estate investors, we are motivated to claim everything as repairs. As our silent business partner, CRA is motivated to rule the expense as capital in nature.

The criteria to determine repairs versus capital are not always black and white. But let’s go through them nonetheless so we have a basis for discussion.

Here are the four criteria to determine whether an expense is considered current or capital expenditure.

1. Does the expense provide a long lasting benefit?Capital expense is considered to provide long lasting benefit while current expense is considered to reoccur after a short period of time.The example used on CRA’s website is setting up vinyl siding on a wooden house – this is considered a capital expense. On the other hand, if you simply paint the wooden wall of the house, this is considered as a current expense.In real life, almost all expenditures fall somewhere in between capital and current expense based on this definition.

2. Does the expense maintain or improve the property?The example given on CRA’s website is pretty clear cut. If you replace the wooden steps with concrete steps, it is considered capital expense.If you simply repair the wooden steps, then it is considered current expense and therefore 100% deductible.Now, as a savvy investor, you may wonder what if you simply replace the broken wooden steps with new wooden steps, should they be considered current expense or capital expense?There is no improvement done to the property, you are simply replacing the current broken one with a new one so it is still safe. On the flip side, this can potentially be viewed as providing long lasting benefit and hence can be viewed as a capital expenditure instead.

   And if this is viewed as providing long lasting benefit, then what else is excluded from providing long lasting benefit? Even a fresh coat of paint can be viewed as providing long lasting benefit.

   So what can really be expensed?

3. Is the expense for a part of the property or for a separate asset?CRA says that capital expenses are the ones incurred for new assets replacing existing assets that are within the property. In other words, if you are buying a new furnace to replace the old one, they are considered a separate class of asset and hence should be capitalized. The furnace is one of the most important components of the home in need of routine maintenance to keep everything ticking over as it should. If the property has had issues that need repairing, as long as it does not improve the property beyond its original condition, it’s considered a current expense. If you suspect an area of your home potentially requires some form of repair work performed on it – the foundations, for example – it’s good to make sure beforehand that this is definitely the case as 50% of the time repairs are not necessary.

4. What is the value of expense?This rule only applies if you cannot come to a conclusion based on the above three criteria.Generally speaking, capital expenditure is much higher in relation to the value of the building whereas the current expense is not.

Having gone through all these criteria, you may still wonder whether the expenditures you have incurred is considered capital or repairs.
You may actually wonder if any of the expenditure to maintain the property can ever be considered as repairs, given the stringent rules CRA are applying.

It’s not always black and white. It’s almost always in the gray area.

These four criteria are also subject to four special situations. I am going to discuss the four special situations in the next blog post so you can get a better understanding of your repair expense.

Until next time, happy Canadian Real Estate Investing.

Cherry Chan, CPA, CA

Your Real Estate Accountant