Cottage owners face one of the most complex tax situations in Canadian real estate: capital gains on sale, principal residence designation strategy across multiple properties, rental income reporting, and a potentially devastating tax bill when the property passes to the next generation. A cottage purchased for $200,000 that’s now worth $800,000 could generate over $120,000 in capital gains tax — or close to zero, depending on how strategically you’ve used your principal residence exemption. Planning now, while you’re alive and healthy, can save your family six figures.
Capital Gains Tax Basics
How It Works
Sale Price
$800,000
Original Cost
$200,000
Improvements
$50,000
Adjusted Cost Base (ACB)
$250,000
Capital Gain
$550,000
Taxable Portion (50%)
$275,000
Tax (at 45% bracket)
~$123,750
The Proposed (and Cancelled) 2024 Inclusion Rate Change
The 2024 federal budget proposed raising the inclusion rate to 66.67% (two-thirds) on individual capital gains above $250,000/year, effective June 25, 2024. That increase was never enacted into law – the Government of Canada cancelled it entirely on March 21, 2025. The inclusion rate has remained 50% on all gains throughout, with no threshold or tiered structure.
Confirming the Example Above
Same Scenario
Capital Gain
$550,000
Taxable Amount ($550,000 × 50%)
$275,000
Tax (at 45%)
~$123,750
This matches the “How It Works” table above – there is no separate tiered calculation.
Principal Residence Exemption (PRE)
The Rules
Key Points
One PRE at a time
Per family unit
Designate per year
Choose which property
Maximize benefit
Designate higher-gain years
PRE Formula
Calculation
Formula
(1 + Years Designated) ÷ Years Owned × Gain
Result
Exempt portion of gain
Example: Two Properties
Scenario
Own house
2010-2025 (15 years)
Own cottage
2015-2025 (10 years)
Selling house
Gain $400,000
Selling cottage
Gain $200,000
Option 1: Designate House 15 Years
House exemption
(1+15)/15 = 100% exempt
Cottage exemption
0 years designated = 0%
Cottage gain taxable
$200,000
Option 2: Designate Cottage 10 Years, House 5 Years
House exemption
(1+5)/15 × $400K = $160K exempt
Cottage exemption
(1+10)/10 × $200K = 100% exempt
House gain taxable
$240,000
| Best Strategy | Depends on relative gains |
Strategic Designation
Strategy
Don’t designate annually
Choose at sale
Track all gains
Know each property’s gain
Compare scenarios
Before selling
Consider timing
Future gains matter
Purchasing a Cottage
Tax Considerations
Factor
Note
HST/GST
Only on new builds
Land transfer tax
Applies
Legal fees
Not deductible
Inspection
Not deductible
Track Your ACB
Add to Cost Base
Purchase price
Original cost
Land transfer tax
Part of ACB
Legal fees
On purchase
Major improvements
Capital additions
Don’t Include
Repairs
Deduct if renting
Maintenance
Not capital
Furniture
Separate property
Rental Income
If You Rent Your Cottage
Report
Rental income
All rent received
Deductions
Expenses, prorated
CCA
Optional depreciation
Deductible Expenses
Expense
Deductible Portion
Property tax
Days rented ÷ total days
Insurance
Prorated
Utilities
Prorated
Maintenance
Prorated
Management fees
100% if rental only
Advertising
100%
Personal Use Impact
Example
Weeks rented
12
Weeks personal use
8
Weeks vacant
32
Total
52 weeks
Calculation
“Rental use”
12 ÷ (12+8) = 60%
Deductible expenses
60% of total
CCA Trap
Warning
If you claim CCA
Cottage may lose partial PRE
CCA recapture
Taxed at sale
Usually better
Skip CCA, preserve PRE option
Inheritance and Death
Deemed Disposition
At Death
Cottage deemed sold
At fair market value
Capital gains triggered
On final tax return
Estate pays tax
Before distribution
Spousal Rollover
To Spouse
Transfer at ACB
No immediate tax
Spouse inherits
Original cost base
Tax postponed
Until spouse sells/dies
Not to Spouse
To Children
Deemed sale at FMV
Tax in final return
Children’s ACB
FMV at death
Double inclusion
If also losing PRE
Planning Strategies
Strategy
Benefit
Designate cottage for more years
Reduce gain
Life insurance
Cover tax bill
Family trust
Complex planning
Sell before death
Control timing
Joint ownership
Partial step-up
Selling Your Cottage
Tax Reporting
T1 Schedule 3
Capital Gains
Report
Proceeds, ACB, gain
T2091
Principal residence designation
Documents Needed
Keep Records
Original purchase
Agreement, statement
Improvements
Receipts, contracts
Sale documents
Agreement, statement
Annual costs
If rented
Gifting to Children
Gift During Lifetime
Tax Impact
Deemed sale at FMV
You pay tax on gain
No gift tax
Canada doesn’t have
Child’s ACB
FMV at gift
Sale at Below FMV
Scenario
Sell to child at $200K
Below FMV
FMV is $500K
Your gain
$500K - ACB (use FMV)
Child’s ACB
Only $200K (paid price)
Result
Worst outcome—tax on $500K, child inherits lower ACB
Better Options
Method
Outcome
Gift at FMV
Pay tax, child gets FMV ACB
Sale at FMV
Same as gift, get cash
Hold until death
Spouse rollover possible
Trust structure
Complex, needs advice
Cross-Border Cottages
US Cottage Owned by Canadian
The Bottom Line
Track your cottage’s adjusted cost base meticulously — purchase price, land transfer tax, legal fees, and every major improvement receipt increases your ACB and reduces your eventual capital gain. Don’t designate your principal residence exemption until you sell; at that point, compare which property had the largest gain per year owned. If you rent the cottage, skip CCA to preserve your PRE eligibility. For estate planning, consider life insurance to cover the tax bill at death, or explore a spousal rollover if your spouse will continue using the property. Never sell to your children below fair market value — it creates the worst possible tax outcome for everyone. This is one area where professional tax advice is almost always worth the cost.