COMMON CENTS

Get Ready for the Tax Man
2016 Federal budget could bring scrutiny to real estate trading

By Brett Crawford

For years, Canadians have benefited from surging housing prices and quick real estate returns, with lax enforcement around capital gains reporting. That’s about to change.
Lag times in new construction, combined with soaring demand in both the new and resale markets, have created prime conditions for Canadians hoping to generate a quick return on their real estate investments. However, if you’re attempting to capitalize on these opportunities by incorrectly reporting or recognizing your gains for income tax purposes, the Tax Man may soon be knocking on your door.

Determining the Tax Rate
The Income Tax Act contains a number of complex rules dealing with the taxation of property dispositions—rules that can have profound results depending on whether a property qualifies as a principal residence or whether it can be determined that the property is held on either income or capital account.
Typically, the appreciation in a real estate property’s value and the ultimate gain realized on a disposition is taxed as a capital gain—which is currently equal to only half of your marginal rate of tax. If the property is ordinarily inhabited by the taxpayer—or his or her spouse, common-law partner, former spouse or common-law partner, or child—it will qualify for the principal residence exemption, subject to certain rules related to the years of ownership after 1981. In other circumstances—such as when a taxpayer is regularly buying and selling properties with the intention of earning a profit—Canada’s tax authorities may decide to tax it at your full marginal rate.
Unfortunately, there is no simple checklist to refer to when determining which tax rate your home falls into. The Canada Revenue Agency (CRA) essentially looks at a number of factors to accurately assess a taxpayer’s filing position. 

Changes Are Coming
Regardless of the outcome—capital gain, full rate income inclusion or tax-free (principal residence exemption)—taxpayers are required to report their real estate dispositions on their personal income tax returns, with the only exception being when your home qualifies as your principal residence for each year that you owned it. The problem? Many homeowners simply fail to do this—and, either intentionally or accidentally, are understating their tax liability.
In the 2016 federal budget, the government took steps to prevent underground economic activity, tax evasion and aggressive tax planning by increasing its resources and spending in these areas. It plans to commit $444.4 million over five years to the CRA in the hopes of recovering $2.6 billion in additional income tax revenues. This spend will include the hiring of additional auditors, improvements in infrastructure, increases in verification activities and improvements to the quality of investigative efforts targeting criminal tax evaders.
The budget further proposes to provide for an investment of $351.6 million over five years to help improve the CRA’s ability to collect outstanding tax debts. It is anticipated that this proposal will ultimately lead to the recovery of an additional $7.4 billion in outstanding tax debts. This strategy is intended to complement existing efforts encouraging the payment of outstanding tax liabilities, and will include the development of plans for those individuals who are struggling to settle their full tax liabilities as they come due.
Given the huge upswing in real estate prices and selling profitability in certain areas, it is very likely that the government’s investments to crack down on tax evasion and combat tax avoidance will target the real estate sector, as the CRA continues to pursue those who aggressively evade or avoid taxes.

Don’t Go It Alone
Failing to report real estate income or capital gains is nothing new—and a lot of the time it’s because well-intentioned taxpayers simply fail to account for their real estate dispositions correctly. They’re either reporting variances in actual amounts (acquisition costs, disposal proceeds, transaction costs), or reporting their dispositions on incorrect account, such as recognizing the disposition on capital account, when the true disposition has been realized on income account. 

Brett Crawford, CPA, CA, BA, is the Senior Manager, Domestic Tax Services, for Grant Thornton LLP. Brett’s focus is in corporate and personal tax, with specialization in planning for owner-managed businesses, estate and succession planning. He brings significant experience in the areas of mergers and acquisitions, purchase due diligence, shareholders’ agreements, employee remuneration and innovative tax strategies. For more information, contact Brett Crawford at 416-777-7220 or Brett.Crawford@ca.gt.com

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