One Comment About Taxation – The Principal Residence Exemption – A Basic Review to Dispel Some Common Mythologies

 

Prior to 1972, capital gains were not taxable in Canada.  When major tax reform was introduced January 1, 1972, the government of Canada instituted a tax on capital gains but only 50% of the resulting capital gain was included in income.  The inclusion rate for capital gains has changed over the years – increasing in the late 1980s to first 2/3 and then further increased to ¾ in the early 1990s and then back down to 50% in the early 2000s where it has been ever since.

In order to encourage home ownership, and not tax many Canadians on their most important financial asset, the principal residence exemption was introduced.  It basically exempts from taxation any capital gains realized on the disposition of a housing unit and its contiguous land (more on that below) to the extent that property qualifies as the taxpayer’s principal residence. There has been some minor tinkering with the exemption since 1972 but the architecture has basically stayed the same. Interestingly, though, it is one of the most misunderstood tax provisions in Canada’s Income Tax Act and is the subject of much mythology.

Let me tell you an old story to illustrate.  In the late 1980s, some friends of my parents were buying and selling homes in Alberta (given the slow recovery of home prices from the disastrous implementation of the National Energy Program earlier in the decade).  They would move into their new homes for very short periods of time (sometimes only days), list the home they were currently living in and then sell.  Over a 3-year period, they moved into and sold 11 different homes.  Turns out that the friends believed that the profit on each home was tax free because of the principal residence exemption.  Back then, the Canada Revenue Agency (or Revenue Canada as it was then known) had an administrative policy that any gains on the disposition of a principal residence was not required to be reported on a taxpayer’s tax return.  Accordingly, the friends never reported any of the 11 dispositions.

Were the friends’ gains tax-free?  Let’s analyze this. The definition of a “principal residence” in the Act is surprisingly complex.  Some of the more important elements are:

• It must be owned by you and “ordinarily inhabited” by you, your spouse / common-law partner (and other relatives in certain circumstances). There is no shortage of myths as to what “ordinarily inhabited” means and no it doesn’t mean just one day.  Given the friends short periods of time living in the property and the reasons for acquisition, it is doubtful that they “ordinarily inhabited” any of the properties they lived in;
• Even if they did, however, the disposed of property must be a “capital property” and not “inventory” which basically means it must be acquired for a long-term hold and not purchased to “flip”. This is why “flippers” are not eligible to claim the principal residence exemption since the property they dispose of is not capital property.  Were the friends’ properties capital properties or inventory?  In my opinion, clearly such properties were inventory and thus not eligible for the principal residence exemption.  As an aside, earlier this year, the government went ahead and implemented the very silly “flipping tax” which will treat any gains on the disposition of a property held for less than a year (subject to some certain “life event” exceptions) as fully taxable and not a capital gain.  This duplicative and non-sensical new provision needs to be repealed;
• Ever since 1981, a married / common-law couple must share eligibility to the principal residence exemption. Prior to such date, each taxpayer could claim a principal residence exemption. This was not an issue in the friends’ case; and
• The land contiguous to the housing unit must not exceed ½ hectare unless it was necessary for the use and enjoyment of the property (and, no, lifestyle cases like long driveways, tennis courts on the excess, etc do not make such excess land necessary for the use and enjoyment of the property…typically, but not always, the courts look at what is the minimum subdivision lot size in the municipality with such minimum subdivision lot size being “necessary”). Again, this was not an issue in the friends’ case since they were buying and selling city homes which had lot sizes well below ½ hectare.

So, to summarize, were the friends’ dispositions and resulting profits on the 11 dispositions eligible for the principal residence exemption?  Likely not because of the simple fact that each property they disposed of was inventory and not capital property.  Because the CRA did not require dispositions where the principal residence exemption was claimed to be reported, it was not easy for them to become aware of such a tax position taken by the friends.  This finally changed in 2016 when the CRA’s administrative position was amended making it mandatory for dispositions of principal residences and the exemption to be reported.  About time.  Given such, my family’s friends would likely not be able to get away with claiming the principal residence exemption 11 times without scrutiny today.

There is no ceiling on the amount of principal residence claim.  If you’re eligible, then the quantum of the exemption could be $1 or it could be $10 million – obviously depending on the actual amount of the gain on the disposition of the property. Is that fair? Did Canada’s parliamentarians ever envision multi-million-dollar gains in Vancouver and Toronto being exempt from taxation? Should there be a ceiling? Not easy questions to answer. But I’ll tackle that in a future newsletter.

In the meantime, don’t be my parents’ friends and rely on tax myths.  Instead ensure that any gains on the disposition of your home is indeed “home sweet tax-free home”.

 

One Comment About Leadership – The Importance of Doing “The Right Thing”

 

One of the attributes of my leadership style is to always do the “right thing”.  I discussed what leadership style is in a previous newsletter.  It’s not always easy to do the right thing.  Politicians are famous for this.  For example, last week Calgary’s mayor chose to politicize not attending the Calgary Jewish community’s lighting of the Menorah instead of “doing the right thing”.  Horrible.  The “right thing” for her to do would obviously have been to attend the event, keep her personal and political opinions to herself and represent the citizens of Calgary whom she serves.

There are many other examples of leaders who do not do the right thing.  It’s easy to provide examples.  But in the moment of making decisions, it is crucial for a leader to analyze all sides of an issue and make a decision that does the “right thing”.  That usually involves being honest, carefully considers the impacts of the alternatives and does what is best overall for the team members, the organization, clients, suppliers and community for which the leader serves.  Not easy.  But practicing consistency in this area over a period of time will certainly add to the leadership style of the leader.

A good TED talk on “Doing the Right Thing Not the Easy Thing” is worth watching and can be viewed here.  And here’s another TED talk on How to Have the Courage to Do the Right Thing that can be viewed here.  These are both worth watching.

Love her or loathe her (you can’t argue with her success), long-time radio talk show host “Dr. Laura” Schlessinger became famous for her blunt language and advice that she quickly dispenses to callers. One of her calling card lines is “Now, go do the right thing”.   It’s a powerful line that causes a listener to pause and think: “what IS the right thing?”.  This simple question asked by oneself is a powerful start to actually doing the right thing.

Leaders, it’s tough and requires courage. But ALWAYS do the right thing….it’s worth it in the long run.

 

One Comment About Economics and Politics: The Importance of Canada’s Oil and Gas Industry

 

There is no doubt about the importance of Canada’s oil and gas industry to building the wealth of Canadians overall.  It produces high paying jobs and contributes significant tax revenues to many different levels of government.

Despite that, there are no shortage of people who want to attack and “shut down” Canada’s oil and gas industry all in the name of “climate change” or recently “climate emergency”.  And in the name of politics, our federal government has been regularly attacking the industry with numerous restrictions and changes.  The latest is a “methane cap” aimed at the oil and gas industry and now the cattle industry.  Wow.

The simple fact is that production of – and the use of – oil and gas in Canada is necessary.  It keeps Canadians alive during the cold and frigid winters.  To simply think that economies and individuals can “just transition” to energy alternatives is silliness and stupidity to the extreme.  But, for some, it’s good politics.  Eminent economist, Jack Mintz, recently released an article about the current federal government’s obsession with trying to phase out the oil and gas industry.  His closing paragraphs in the article are very apropos:

But top producers like the U.S. and Canada are not holding back and governments aren’t stopping them. Phase-out is all short-term cost in pursuit of climate gains that won’t be realized for decades, if at all. Nor are politicians willing to eliminate the tax revenues and high-paying jobs the industry generates. With energy security crucial in an increasingly dangerous world, oil-consuming countries are finding that intermittent renewable energy and other high-cost energy sources are no substitute for fossil fuels.

As the federal Liberals sink in the polls, they face a many-ways existential choice. Do they pursue their climate promises and phase out oil and gas? Or do they secure the benefits of oil and gas production for years to come? Or, a third option: do they say one thing but quietly do the other? Is it all, as Shakespeare would say, “much ado about nothing”?

Very well put.  It’s gratifying to me to see some common sense prevail with the Alberta and Saskatchewan provincial governments pushing back at the nonsense.  I, for one, am grateful for our country’s oil and gas industry and thank them for helping us have a higher standard of living and keeping us warm.

 

Bonus Comment – Quote From Herm Edwards – the American ex-NFL Player, Coach and TV Analyst – About Doing the Right Thing

 

“I do the right thing on purpose. I don’t do it by accident.”

Yep, totally agree!

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