Converting Your Primary Residence to a Rental Property in Canada

Moving out of your home and renting it is a change in use, which the tax rules treat as a sale even though nothing was sold. An election can switch that off and keep the home eligible for the principal residence exemption while it is rented, at the cost of not claiming capital cost allowance (CCA). This page walks through the conversion, the trade-off, and moving back in. It is part of the real estate tax hub.

The Change in Use at Conversion

If the home was your principal residence for every year you owned it, the exemption can cover the whole gain on the deemed sale. The gain after the change, while the home is a rental, is a capital gain when you sell it; the guide to selling a rental property covers that sale.

The Election to Keep It a Principal Residence

Turning your home into a rental is a deemed sale at fair market value, but you can elect under subsection 45(2) of the Income Tax Act not to be treated as having changed its use: you then can't claim capital cost allowance on it, you still report the net rental income, and you can keep designating it as your principal residence for up to four years (longer for some work relocations) as long as you designate no other home and stay resident in Canada. The conditions:

• Without the election, changing your home to a rental is treated as selling it at fair market value and buying it back, and any gain for years it wasn't your principal residence is taxable.
• While the election is in effect you can't claim capital cost allowance on the property.
• If you claim capital cost allowance on the property, the election is treated as rescinded on the first day of the year you claim it, and you are then considered to have sold and reacquired the property at fair market value on that day.
• You still report the net rental income.
• You can designate the home as your principal residence for up to four years while it is rented.
• You don't designate any other property as your principal residence for those years.
• You are resident or deemed resident in Canada.
• You elect by attaching a signed letter to your return for the year the use changes, describing the property and stating that you want subsection 45(2) to apply.
• The four-year limit can be extended when your or your spouse's employer relocates you and the other conditions are met, including that your home is at least 40 km farther from the new workplace than your temporary home.

A late election. The CRA’s folio on principal residences says the CRA can accept a late-filed election in certain circumstances, one of which is that no CCA has been claimed on the property since the change in use.

With and without the election

Only one home a year can be designated by your family, so a year designated to the rented home while the election is in effect can’t also be designated to a home you live in at the time.

The Market Value at Conversion

The CRA’s line 12700 guidance says that every time you change the use of a property, you are considered to have sold it at its fair market value. That value does two jobs: it ends the principal residence period’s gain, and it becomes the starting cost for the rental years. Guide T4037 says the records and supporting documents behind a capital gain are needed to calculate it and should be kept in case the CRA asks to see them later. Nothing is actually sold, so there is no sale price on record; one way to support the figure is an appraisal or a note of comparable sales near that date, made at the time rather than years later when the home is sold.

The CCA Decision

When a building on which CCA was claimed is sold: When you sell a rental building for more than its undepreciated capital cost (UCC), the difference, counting the sale price only up to the building's original cost, is recaptured CCA and added to your income in full; a sale above the original cost is also a capital gain, and if no property is left in the class and some UCC remains, that remainder is a terminal loss you deduct. The CCA guide has the classes and rates.

Which path costs less depends on how long the home is rented, whether you move back, the gain while it is rented, and your tax rate in the years involved.

What You File

The guide to reporting rental income covers Form T776 line by line, and the rental expenses guide covers what you can deduct.

Moving Back In

If the election was in effect, the CRA says moving back has no immediate effect on your tax. If you later change the use again and don’t make the election again, a gain on selling the property may be taxable.

If there was no election, or you move into a property you have always rented out, the move is another change in use: you are considered to have sold the property at fair market value and reacquired it. The CRA’s rules for the election that postpones it:

• Changing a rental to your principal residence is treated as a sale at fair market value; the election postpones reporting it until you actually sell the property.
• You can designate the property as your principal residence for up to four years before you actually move in.
• The election isn't available if you, your spouse or common-law partner, or a trust under which either of you is a beneficiary deducted CCA on the property for any tax year after 1984 and on or before the day the use changes.
• You make it with a signed letter attached to your return that describes the property and states that you want subsection 45(3) to apply, by the earlier of 90 days after the CRA asks you to make it and the filing due date for the year you actually sell the property.
• The election covers only the capital gain: a recapture of CCA claimed before 1985 is still included in income for the year the use changes.

The CRA’s folio notes that the change back to personal use is also a deemed sale of the building for CCA purposes, which can result in a recapture of CCA previously claimed, and the election can’t defer that.

Mortgage and Insurance

Renting the home can also matter to your mortgage and home insurance. The terms are in the mortgage contract and the insurance policy, so the lender and the insurer are the ones who say whether renting changes anything. The rental property mortgage guide covers how lenders treat rental properties.

Common Mistakes

Related Reading

• Principal residence exemption: complete guide
• Principal residence exemption when you partly rented your home
• Renting out part of your home: tax rules
• Selling a rental property: tax rules
• Real estate tax hub