We solve serious CRA tax problems

Help from a CPA Tax Consultant – Change in Use of a Property & Subsection 45(2) Elections

Good corporate tax planning

For tax purposes, a property can be classified in several ways. It can serve as a primary residence, a rental property, a commercial property, or various combinations of these uses. A property can also be classified as capital property or inventory. As the owner of a property, you can change how you use it, such as converting a principal residence into a rental property or vice versa.

Change of Use and Deemed Disposition of a Property

Generally speaking, when the use of a property changes, the tax rules deem (treat it as though) the property was sold at fair market value and immediately repurchased at the same price. This triggers a capital gain (or loss) and can put a taxpayer in a cash crunch – the property is not sold, but the resulting capital gain or loss must be reported in the year the change of use took place. You do not have to pay tax on gains related to years the property was your primary residence; however, taxes are payable on gains realized when the property was not your primary residence.

Filing an Election Under Subsection 45(2) of the Income Tax Act

To mitigate this, subsection 45(2) of the Income Tax Act (ITA) allows a taxpayer to file an election that allows you to defer the deemed disposition (and associated capital gains tax) that would otherwise occur when you change the use of your property. It can also help preserve your ability to claim the principal residence exemption for up to four additional years while the property is being rented out, provided you meet certain conditions. 

If a taxpayer fails to file the election, the CRA will, in some circumstances, accept late elections.

Completing Related Tax Forms and Schedules

To make a 45(2) election, it must be clearly documented and properly reported on the applicable tax forms. The following steps and considerations apply when preparing and filing the necessary forms and schedules:

1. Drafting a Written Election Statement

A written statement must accompany the taxpayer’s income tax return for the year in which the change in use occurs. This statement should clearly indicate that the election under subsection 45(2) is being made. It must describe the property in sufficient detail to identify it and specify the date on which the change in use occurred.

2. Reporting on the Income Tax Return

Although no immediate capital gain is triggered by the election, the taxpayer must still report the election appropriately. This involves:

T1 General (Individuals). Attach the written election statement to the paper-filed return or submit it separately if filing electronically. Ensure it is submitted by the due date of the return for the year in which the change in use occurred.

T2 Corporation Income Tax Return (if applicable). A corporation electing under subsection 45(2) must include a similar statement with its return.

3. Completing Schedule 3 (Capital Gains or Losses)

If no election is made, a deemed disposition at fair market value would typically be reported on Schedule 3 of the tax return. However, when an election is validly filed under subsection 45(2), this schedule does not require an entry for the property until a subsequent disposition or change in use that ends the deferral. At that point, the capital gain must be reported, with the adjusted cost base determined as if the election had not been made.

4. Documenting Capital Cost Allowance (CCA) Claims

Once a property is considered to have been converted to income-producing use, CCA may be claimed. However, claiming CCA invalidates the election under subsection 45(2). Taxpayers must ensure that no capital cost allowance (CCA) has been claimed on the property if they intend to rely on the election. This condition should be verified before filing the return.

5. Keeping Adequate Records

Supporting documents such as property purchase agreements, real estate appraisals, and financial records related to rental income or business use should be retained. CRA may request these materials to substantiate the details of the election and the basis for deferral of capital gains.

6. Consideration of Subsequent Events

If a later change in use occurs (e.g., reconversion to personal use or sale of the property), the taxpayer must revisit the tax treatment and may need to file another election under subsection 45(3) or report the resulting capital gain. Schedule 3 and other applicable forms must be completed accordingly in that subsequent year.

Completing the related tax forms and schedules requires careful attention to the election’s eligibility criteria, the reporting processes, and long-term tax consequences. It is highly recommended that you speak to us for professional tax advice if the property has appreciated significantly or involves mixed-use scenarios.

Special Situations and Exceptions

While subsection 45(2) provides a mechanism for taxpayers to defer capital gains when converting a principal residence into an income-producing property, certain special circumstances can influence its application or restrict its availability. These exceptions should be reviewed carefully before relying on the election.

Ceasing to Be a Resident of Canada

If a taxpayer elects under subsection 45(2) and subsequently emigrates from Canada, the deferral of capital gains may be curtailed. When an individual ceases to be a resident, a deemed disposition of property occurs under subsection 128.1(4), potentially overriding the 45(2) election. The departure tax triggered by emigration can accelerate the recognition of accrued gains on the property, even if the property is not sold.

Trust and Corporate Ownership

Subsection 45(2) applies only to individuals who own property directly. Properties held in trust or by a corporation do not qualify for the election. In particular, beneficial ownership by a trust, even where the property is used as a residence by a beneficiary, is insufficient for the purpose of claiming the election or the principal residence exemption. These ownership structures require distinct tax planning and reporting strategies.

Late or Retroactive Elections

The Canada Revenue Agency may accept late-filed subsection 45(2) elections under specific administrative relief provisions. Taxpayers must demonstrate that the conditions for relief under subsection 220(3.2) or Information Circular IC07-1R1 are met, including evidence of reasonable error and prompt corrective action. However, late elections are not guaranteed and should not be relied upon as a substitute for timely compliance.

 

As experienced and licensed CPA tax consultants, we help our clients handle all tax and accounting issues. Give us a call today at 1 844 340 5771 to schedule an assessment.

ACCA-Logo
AICPA-Logo
Chartered professional accountant logo
Chartered Professional Accountant in Canada, U.S. and U.K.

Testimonial

“Need someone who can talk CRA and walk tax law stuff? I did. After an expensive year of trying to resolve a CRA issue on my own – I was very happy to have Sam Faris in the ring with me. I am confident that no lawyer or CA could have prepared a stronger case report to support my appeal. Sam approached my case professionally and skillfully from all angles possible and personally made sure I understood exactly what was going on; every step of the way.”

M Quan
pro-tip

Pro Tip

ACCESSING THE SMALL BUSINESS DEDUCTION IN YOUR BUSINESS

The Small Business Deduction gives businesses a tax deduction on the first $500,000 of income. This saves an eligible corporation around up to $50,000 in income taxes. There are a number of conditions that have to be met to be eligible for this deduction.

Very glad I contacted Sam and his team for help with my tax situation. I had worked with other accountants in the past but none of them were as knowledgeable and easy to work with as the Faris CPA team. They were able to help me resolve my situation and better prepare for the future.

Update - it’s been a few years now and can confirm that working with Sam as my tax consultant was an excellent choice and highly recommend him!
Save your time and money and hire Sam Faris for any problem with the CRA. He is the man to fight the CRA and get you the best results. His firm a top consulting firm I have ever dealt with. He is honest, trustworthy and very professional on both personal and business levels. He won my case against the CRA and the audit went through very smoothly because of his top notch service and expertise. I wish I met Sam before. I paid other professionals but they were disappointing and did not deliver what Sam delivered.
Many thanks Sam and I will definitely refer my clients and family to him.
Response from the owner:Thank you for the five stars Google review and your kind words. We strive to provide the best customer service and to ensure that our clients feel that they are in a safe hands while we are working on their files. We understand that CRA audits are not a pleasant experience to have and we do our best to provide strong arguments to dispute CRA’s decisions and protect our clients’ best interests. Thanks you again and we will remain at your disposal if you need our service in the future.
I was referred to Sam Faris by a tax lawyer to handle my a complicated tax audit by the CRA and to refile all my outstanding corporate and personal tax returns. He was highly recommended by the tax lawyer and by other professional. The minute I hired Sam to sort out the big mess that I had with the CRA, I felt I am safe and in a good hands. He and his team were responsive to my questions and my concerns. Once he completed his work, he insisted to meet in person with the auditor and the team leader. His work quality was second to none. He backed up all accounts prepared a perfect reconciliation. On that basis, he presented his work confidentially and was able to convince the CRA team with his position and his calculations. I must admit that Sam Faris is the best tax consultant and he is a life saver. As a side note, his fee is very reasonable considering to other professionals and more importantly the work quality and the results that he achieved are unbeatable.
Response from the owner:Many thanks Moss for the positive review.
I was referred to Mr. faris by a friend of mine who happened to be his client for more than 10 years. I was struggling with the CRA reading HST and income tax audit. CRA claimed that I owe significant amount of HST and income tax. Mr. Faris was able to perform a detailed analysis which was backed up with previous court cases. As a result of his sophisticated work, he was able to convince CRA that the property was not subject to HST and income tax and the case was closed with zero hst owing. Thank you Mr. Faris for all your hard work.
Sam and his team are an amazing tax consulting firm. They know how the CRA operates and are able to get results based on your actual numbers, not the inflated CRA ones. More importantly, they are super professional and more cost-effective than I would've thought. The Faris team really are life-savers!
Response from the owner:Dear Aymann Your feedback is much appreciated. We have been in business many years now. We have dealt with countless and different types of CRA audits. We noticed that the CRA always attempt to assess on inflated numbers. We have been successful to reduce the CRA numbers and to prove to the CRA their numbers are inflated. As result, CRA would accept our numbers as our work is perfectly reconciled and backed up with the appropriate documents.
I found Sam online and I was I impressed with the excellent reputation and all the good results that he achieved to his clients. I decided to hire him to handle a complex matter with the CRA. With no surprises, Sam performed the work on timely manner and in the most efficient way possible. He kept his promises and he saved me significant amount CRA claimed that I owed. Sam was very transparent while working on my file and kept me in the loop. If you are looking for an excellent and expert tax consultant, Sam is the man. You will never be disappointed.
Response from the owner:My pleasure and thank you for the positive review.
Faris CPA has helped me to go through a very difficult time in my life while the CRA was after me and my family claiming that we have significant amount of unreported income. Sam and his team took over the file and dealt with it in the most efficient and effective way. They provided every single reconciliation and backup to show that the CRA assumptions are baseless. They were able to stop the escalation based on their sophisticated strategy and I am so grateful for them.
Sam and his team are expert and solid tax consultants who can fight CRA audits confidentiality and aggressively. They are the sharks and the best in the country to do so.
Response from the owner:Omar Your review and kind words are much appreciated. We are glad that you are happy with our performance and the outcome of the audit. we will remain at your disposal if you need our service in the future.
I was referred to Mr. Faris by another professional who recommended him to deal with my multiple years of outstanding corporate and tax returns. I interviewed Sam and was impressed in his confidence and transparency. He did not promise the moon just to get my business. Sam was able to file all returns under the voluntary disclosure program. After completing filling all tax returns, I realized the amount of money he saved me. I enjoyed very much working with him. He ensured that the work progress flow smoothly without any complications. He took to consideration the emotional stress factor and he was available to speak with me even beyond business hours just to make me more calm and to make me feel that he is on top of the matter and it will be resolved to my satisfaction. Indeed, this is what happened. The matter was resolved to my satisfaction and CRA concluded that the returns which Sam filed are reasonable and there is no need to further audit me nor my company. In summary, Sam is a life saver. He saved me and saved my family and now I am in the right track where all my tax filing obligations are met and I don’t owe any taxes. So grateful to Sam and his dedication while working on my file.
Response from the owner:Raj Thank you for the positive Google review. We are happy that you are satisfied with our services. Voluntary disclosure program is one of our specialties and we have dealt with many complex cases too. We get referrals from other professionals as we have been in the business of fighting CRA many years and we have countless success stories that many professionals are aware of. Please do contact us if you require further help in the future.