The Canada Revenue Agency, or CRA, is clamping down on real estate transactions more than it used to. They claim that tax non-compliance is one reason behind ever-increasing housing prices.
In particular, the CRA is interesting in taking a closer look at home and condo flipping, and they have been running an audit on home and condo flipping for a few years now. They often contact condo developers, ask for a list of buyers, and then follow up with the buyers to ask whether they’re living in the condo or sold it.
Often, people buy homes or condos, either pre-construction or pre-build, and then try to sell them to make a profit. This can happen either once construction is finished or a little after they first buy the unit. A house or condo flipper might also do an assignment sale. This means they will assign their contract for the unit to a purchaser before they take possession of the property.
According to the CRA, many house or condo flippers incorrectly categorize their taxable income in order to qualify for a lower tax rate. They do this by claiming capital gains treatment rather than income treatment and this can get them into a lot of trouble with the CRA.
Property Flipping Tax Implications
The main issue for anyone flipping a house in Canada is categorizing the income they earn from the sale of the unit(s) as either capital gains or business income.
And this is incorrect.
Business income allows a flipper to take off some sale expenses. Still, most flippers prefer to claim a capital gains income after selling the property because taxpayers don’t pay as much tax on capital gains. When claiming the income as capital gains, only half the sale’s profit is taxable. Now compare that to the entire profit of a business income being taxable; you can see why many flippers choose this route.
According to the Income Tax Act, there is no clear rule for figuring out whether this income comes from capital gains or business income, which is why there can be confusion. The courts identify several factors to consider when determining what type of income, it is:
- How long has the taxpayer owned the property
- What the taxpayer does for a living
- Whether money was borrowed to buy the property
- How often the taxpayer sells real estate
These factors will help determine the taxpayer’s intention, which is the main thing to keep in mind when classifying disposition transactions regarding property flipping.
Taxpayers who flip condos should claim business income on their property sales. Assignment sales will almost always fall under the category of business income.
Similar factors to what are used when classifying capital gains or business income also apply in the case of determining if the main residence exemption was claimed legitimately. The main residence exemption renders selling a taxpayer’s main residence tax-free for those years when it was their main home. This exemption can only be claimed when the taxpayer meant to live there and mainly did live there.
On the flip side, a condo flipper should also know the GST/HST taxation impacts on selling a condo or house.
As the buyer, the flipper might like to claim a New Housing Rebate, which lets the buyer of a brand new or highly renovated home recover some of the GST/HST that was paid on the sale.
There is another requirement for claiming such a rebate, though, and that is the use of the premises as the owner’s primary residence, and most house flippers don’t fulfil this requirement, meaning they can’t legally claim this rebate.
Also, condo flippers usually have requirements for GST/HST remittance on condo unit sales. Typically, GST/HST should be paid on a new-build sale or a house which has been highly renovated. Any flippers investing in not-built-yet or partly constructed units and then selling them as soon as they’re finished will probably trip over this rule, and legally they ought to remit GST/HST.
Bygrave vs. the Queen – An Interesting Case
As you might know from the Bygrave vs. the Queen case, the CRA’s attempts to catch tax-evading flippers don’t always go according to plan. Back in 2006, Mr. Bygrave, who was a TTC operator, bought a condo during the pre-construction stage.
He planned to move in when it was finished. His father died, and his mother came to live with him, which derailed these plans. The condo was no longer suitable since he had his mother with him, so he sold it to someone else without ever having lived there.
Mr. Bygrave reported his earnings from the sale as capital gains, but the CRA decided to reassess him. They found the sale to be not in ‘in the nature of trade’ and insisted that Mr. Bygrave he’d earnt a business income from the house sale.
In order to figure out if Mr. Bygrave had therefore earned a business income, the court decided to apply a 4-factor test. The first two test factors, namely the nature of Mr. Bygrave’s profession and his intention to live there, favoured him as not acting as a tradesman in the whole deal.
However, the use and nature of the property suggested Mr. Bygrave was earning a business income rather than simply being a victim of circumstance.
The deciding factor was the length of ownership of the house and whether he used borrowed money to buy it. The finding here was neutral. Ultimately the court decided Mr. Bygrave was right to claim capital gains on the condo sale and not a business income.
How to Understand Your Condo Flipping Transaction Tax-wise
Although Mr. Bygrave eventually got the result he wanted, bear in mind that it took him five years of battling with the CRA. This case is interesting because it shows the extent of the grey area between business income and capital gains. It isn’t always clear-cut, which can confuse tax partners as well as the CRA.
Your best bet if you’re in a similar situation is to get in touch with our reputable Canadian tax accountants, who can help avoid a situation like this. It’s essential to understand and correctly file the sale, so you don’t have a CRA audit or reassessment.
In our experience, it is possible to correct mistakes made by the CRA or taxpayer when assessing what kind of income is earned when a unit is flipped or sold. A condo or house flipper can correct their business income or capital gains filing position and report unremitting GST or HST using the Voluntary Disclosure Procedure.
Something else a taxpayer can do is object to a wrong CRA tax assessment and plead their case. It’s much easier to understand whatever tax obligations you might be facing by talking with one of our experienced Canadian tax accountants.
More information about Tax Partners, please visit our YouTube channel or contact us at 905-836-8755. Alternatively, you may email us at [email protected].
The content of this blog/article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances. Our firm does offer a FREE initial consultation (30 minutes).