In addition to an upcoming ban on foreign buyers and a vacant home tax in the city of Toronto, the federal government is cracking down on house flipping. On August 9, 2022, draft legislation introduced the government’s new anti-flipping rules to take effect in January 2023.
Flipping has been defined in government documents as “purchasing real estate with the intention of reselling the property in a short period of time to realize a profit.”
The government’s intent behind the new legislation which is commonly referred to as an “anti-flipping tax” is another measure to reduce speculative demand and help to cool the excessive price growth we’ve seen in the past few years.
Boiling it down
When you sell a residential property for a profit, the Income Tax Act determines how it will be taxed. If it's considered a capital gain, 50% of the profit is taxable, but if it's treated as business income, 100% of the profit is taxable.
Selling a home that you live in as your main residence doesn't incur any taxes. However, some people have taken advantage of this exemption by quickly buying and selling properties for profit. To address this, the Canadian government has introduced new rules. Under the anti-flipping tax rule, if you sell a property within a year of owning it, the profit will be taxed as business income.
This also applies to assignment sales and pre-construction purchases. There are exceptions for situations like death, divorce, safety issues, illness or disability, education or employment-related relocation, and insolvency. In court cases related to the principal residence exemption, factors such as other property transactions, ownership duration, occupation, and motive are considered.
Cherry Chan, an Ontario-based Real Estate Accountant, has written a blog article called "The Quickest and Easiest Way to Understand the Anti-Flipping Rule" that explains the tax perspective on this matter. The article discusses the implications of corporate and personal ownership, how the Canadian Revenue Agency (CRA) and the court assess specific situations, and information about capital loss.
What is a Principal Residence Exemption?
Today, when a home qualifies as a principal residence and you sell it for a profit, capital gains realized on its disposition can be realized tax-free by claiming the principal residence exemption (PRE).
For example, if Wilma and Fred bought their principal home for $500,000 and sold it a few years later for $600,000, their profits, under the PRE would be essentially tax-fee (not taxed as income or capital gains).
For a home to be eligible for the PRE, requirements must be satisfied, such as actually owning the home, and living in it for at least part of the year by the individual (or their spouse, common-law partner, or child.). If the main reason for owning a housing unit is to gain or produce income, for example a rental property, then you would not be eligible for the PRE.
Capital Gains Vs. Business Income on the sale of a property
If your property was purchased for the purposes of flipping, assignment, or buying to build and sell, your profits on the sale of the property are generally taxed as Business Income at your tax rate. If you purchased a property to generate rental income, your profits on the sale of the property would be taxed as capital gains. Generally, capital gains are only included in income at 50%, so they are taxed lower than business income.
To continue our example, if Wilma and Fred bought a home to flip for $500,000, renovated it for $50,000 and sold it to Betty and Barney for $600,000, their profits of $50,000 would be taxed as full business income. Assuming Wilma and Fred’s tax rate is 25%, they would owe the government $12,500 in taxes.
Anti-flipping and the Canada Revenue Agency
The Canada Revenue Agency (CRA) has already been investigating and enforcing residential real estate that was being flipped or assigned and not properly reported as business income. Essentially, house flippers have been using the Primary Residence Exemption to avoid or reduce taxes. The new tax law puts an end to using the PRE as an option and will flat-out disallow the use of the principal residence exemption to shelter the capital gain realized on the sale of your home if you’ve owned it for less than 12 months. Essentially, under the new tax law, anyone who sells a property which they owned for less than 12 months (specifically, 365 consecutive days) will be considered to have “flipped” the house and any profits from the deal will be taxed as business income. This means the gain, less any associated expenses will be fully taxable in the year of the sale, just as though the seller earned the money in other employment. Exceptions include a certain number of life events including the death of the individual or a related party, an addition to a household, breakdown of a relationship, a threat to personal safety, serious illness or disability, work relocation or termination, insolvency or destruction or expropriation of the home.
Since every situation can be specific, this article should not be relied upon as legal, financial, or tax advice. We strongly encourage you to speak with a qualified accountant to determine specific implications, if any, to your situation.
Keep in mind the potential GST/HST implications
When selling a property, it's important to consider whether you may need to charge GST/HST on the sale. This can depend on how the property was used between its original purchase and the sale. Additionally, if you're classified as a 'builder' under the Excise Tax Act, which can happen if substantial renovations were made, the property may also be subject to GST/HST.
Lastly, a recent change in Budget 2022 means that the sale of a residential condominium or single-unit residential complex by way of assignment is now taxable for GST/HST, regardless of the reason for acquiring the property.
Update: Specific provincial anti-flipping tax measures in the works
British Columbia recently introduced new housing initiatives worth over $12B over the next decade toward incentives to build, laws to curb speculation, financial aid for renters. Part of the plan is to introduce a home flipping tax design to discourage would-be buyers from buying and holding a property over a short period of time and selling it for a higher price. The new anti-flipping tax is expected to roll out in a few months and other provinces will are likely follow British Columbia's lead, who has also been first to roll-out measures like the Vacant Home Tax or introduce a cooling-off period for home buyers.
The Bottom Line
Effective January 2023, if you plan to flip a home while owning it for less than 365, expect to be on the hook for taxes on the full value of your profits as the Principal Residence Exemption will no longer apply. Make sure you speak to a professional accountant if this situation may apply to you.