Dec 19, 2024
Introduction
Home flipping in Canada has been a popular strategy for those looking to invest in real estate, capitalize on market trends, and potentially earn significant profits. However, one of the less discussed but critically important aspects of this practice is the tax implications, particularly when it comes to being assessed as a trader rather than an investor. It is extremely important to be wary of the potential tax implications when flipping homes for profit.
Property Flipping Taxed as Business Income
When you flip a home, the profit from the sale can be assessed by the CRA as either capital gains or business income.
Capital Gains: Typically, only 50% of the profit from the sale of a property is taxable when the proceeds are characterized as capital gains. As of June 25, 2024, the capital gains inclusion rate changed from 50% to 66.67% for corporations and trusts, as well as for individuals with capital gains of more than $250,000. For capital gains less than $250,000, the inclusion rate remains at 50%
Business Income: If the CRA determines that your activity constitutes trading (i.e. the sale was an adventure in the nature of trade), 100% of your profit from flipping is taxable as business income. This can significantly increase your tax liability, sometimes almost doubling the tax you would pay if the sale had been characterized as capital gains.
When determining whether a sale was an adventure in the nature of trade, courts observe several criteria speaking to a taxpayer’s “intention at the time of acquiring an asset.” The decision in Happy Valley Farms Ltd v Her Majesty the Queen is one of the leading cases on the topic.
The jurisprudence describes the most relevant criteria as follows:
- The nature of the property sold. Although virtually any form of property may be acquired to be dealt in, those forms of property, such as manufactured articles, which are generally the subject of trading only, are rarely the subject of investment. Property which does not yield to its owner an income or personal enjoyment simply by virtue of its ownership is more likely to have been acquired for the purpose of sale than property that does.
- The length of period of ownership. Generally, property meant to be dealt in is realized within a short time after acquisition. Nevertheless, there are many exceptions to this general rule.
- The frequency or number of other similar transactions by the taxpayer. If the same sort of property has been sold in succession over a period of years or there are several sales at about the same date, a presumption arises that there has been dealing in respect of the property.
- The circumstances that were responsible for the sale of the property. There may exist some explanation, such as a sudden emergency or an opportunity calling for ready money, that will preclude a finding that the plan of dealing in the property was what caused the original purchase.
- Motive. The motive of the taxpayer is never irrelevant in any of these cases. The intention at the time of acquiring an asset, as inferred from surrounding circumstances and direct evidence, is one of the most important elements in determining whether a gain is of a capital or income nature.
There is an extensive amount of jurisprudence on each factor listed above, and the ways to dispute each factor in the taxpayer’s favour can be complex. If the CRA has recharacterized the sale of your property and you believe they are incorrect, it is best to contact an expert Canadian tax lawyer to determine the way to proceed that maximizes your chances of successfully challenging the decision.
Property Flipping on the CRA’s Radar More Than Ever Before
Recently, a serial property flipper in British Columbia, named Balkar Bhullar, has been convicted of tax evasion and fined more than $2 million for failing to report nearly $7.5 million in earnings relating to unreported income from the sale of 14 properties between 2011 and 2014.
The CRA devotes extensive tax audit resources to investigating real estate sales, as uncovering unreported income or recharacterizing the proceeds of a sale from capital gains to business income can result in significant amounts of tax revenue for the CRA for a single transaction.
The government has also been taking steps to address flipping in the real estate sector, including introducing a new residential property flipping rule in Budget 2022.
Under this rule, as of January 1, 2023, a “flipped property” of a taxpayer is a housing unit located in Canada that is not already considered to be inventory of the taxpayer and was owned by the taxpayer for less than 365 consecutive days prior to the disposition, unless the disposition can be reasonably considered to have occurred due to one of the listed life events, such as a death of a family member of insolvency of the taxpayer.
If the property that was sold falls under the definition of a “flipped property,” the profit from property flipping is fully taxable as business income and does not qualify for the 50% capital gains inclusion rate or the Principal Residence Exemption. This rule eliminates the need for the CRA to prove intent when disputing the characterization of the proceeds from a property sale, making it easier for them to categorize the sale as a business transaction. If caught misreporting, penalties can be severe, including fines and interest on back taxes.
Being assessed as a trader when flipping homes in Canada carries substantial risks, primarily due to the tax implications. The shift towards viewing quick sales as business activities, supported by new legislation and increased scrutiny by the CRA, means that flippers need to be more strategic, informed, and compliant with tax laws than ever before.
Understanding these dangers is crucial to avoid legal and financial pitfalls. If you are unsure how to report the disposition of a property, contact a top Canadian tax lawyer for advice.
Pro Tax tip: Utilize the Principal Residence Exemption Strategically
If you’re considering flipping homes, one strategy to mitigate being taxed as a trader involves living in and then designating one property as your principal residence for at least part of the time you own it.
This will allow you to pay reduced taxes or potentially no tax upon the disposition of the property based on when you acquired and sold the property and how long the property was your principal residence. If you live in the property for a reasonable period during a taxation year, you might qualify for the Principal Residence Exemption for that year.
Keep thorough documentation of your residence, including utility bills, change of address notifications, and other proofs of living in the property, such as deliveries to the address. This documentation will be vital if your claim is subsequently audited.
FAQ
Are there any provincial rules of real estate trading I should be aware of?
Yes, for instance, British Columbia introduced a “house-flipping tax” scheduled to take effect in 2025, where profits from properties sold within two years are taxed, with the rate increasing if sold within one year. The BC home flipping tax is separate and distinct from the federal property flipping rules and is not harmonized or administered with the federal or B.C. income tax. It is recommended to consult with an expert Canadian tax lawyer to determine if there are any province-specific rules that apply to your situation.
Can I claim losses if I’m classified as a trader under the new flipping rules?
Generally, no. Losses from properties classified as “flipped” under the new rules are not deductible against other income. Any losses resulting from the sale of a flipped property are deemed to be nil.
DISCLAIMER: This article just provides broad information. It is only up to date as of the posting date. It has not been updated and may be out of date. It does not give legal advice and should not be relied on. Every tax scenario is unique to its circumstances and will differ from the instances described in the article. If you have specific legal questions, you should seek the advice of a Canadian tax lawyer.
