Part 2: The Tax Traps You MUST Know in Ontario

For many Ontario homeowners, it’s increasingly common to convert a principal residence into a rental property—whether due to a temporary job relocation, family needs, or a strategic investment decision.

But what many people don’t realize is that changing the use of your home carries important tax consequences. Without proper planning, you could easily lose a portion of your principal residence exemption, leading to a large and unexpected tax bill when you sell.

This article breaks down the major tax considerations you must understand before converting your home into a rental property.

Before we begin, a quick disclaimer:

I am not a tax professional. This content is for general information only, and I welcome corrections from accountants if needed.

1. Changing Use May Trigger a CRA “Deemed Disposition”

When your principal residence becomes a rental property, the Canada Revenue Agency (CRA) may treat the transition as a “deemed disposition.”

In simple terms, CRA assumes that on the day the property’s use changed, you:

• Sold the home at fair market value, and

• Immediately bought it back at that same value

This matters because:

• Your principal residence exemption may end on the date of the change

• Any appreciation after the property becomes a rental may be taxable when you sell

• This splits your ownership period into a “tax-free” portion and a “taxable” portion

For homeowners who plan to rent the property only temporarily, this rule can lead to significant tax exposure if not handled properly.

2. The 45(3) Election: A Valuable Way to Preserve Your Exemption for Up to 4 Years

Fortunately, the CRA offers a powerful mechanism to reduce tax impact—the 45(3) election.

By filing this election, you may:

• Continue to designate the property as your principal residence for up to four additional years, even while renting it out

• Preserve the principal residence exemption on future gains

• Avoid triggering taxable capital gains during the rental period

• Avoid the deemed disposition at the moment the use changes

This is especially helpful for:

• Job relocations

• Temporary out-of-town assignments

• Homeowners planning to move back into the property

Important notes:

• The 45(3) election is not filed in the year you begin renting—it is submitted in the year you eventually sell the property.

• While using the election, you cannot claim Capital Cost Allowance (CCA) on the property.

3. Depreciation (CCA): A Common Mistake With Big Consequences

Once your home becomes a rental, you technically have the option to claim Capital Cost Allowance (CCA)—essentially tax depreciation—to offset your rental income.

However, claiming CCA can backfire:

• Any CCA you claim must be fully recaptured and taxed when you sell

• Recapture is taxed at your full marginal tax rate, not the lower capital gains rate

• Claiming CCA invalidates your ability to use the 45(3) election, causing you to lose tax-free growth for those years

In most cases:

• Short-term rentals: You generally should not claim CCA

• Long-term investment rentals: Work with a professional accountant to calculate whether claiming CCA actually benefits you over time

4. Selling the Property: Tax Is Calculated Based on Time

When you eventually sell the home, CRA determines your taxable capital gains based on how many years the property was:

• Your principal residence (exempt), versus

• A rental property (taxable)

For example:

• Lived in the home: 5 years

• Rented the home: 4 years

• Sold the home after 9 years

If you do not file the 45(3) election:

• The first 5 years are tax-free

• The 4 rental years are taxable based on a time-proportion formula

If you do file the 45(3) election:

• All 9 years may qualify as principal residence years

• The capital gain may be fully exempt

The tax difference can easily reach tens of thousands of dollars.

5. Other Practical Considerations

Record-Keeping

Keep detailed records of:

• The property’s fair market value on the date you start renting

• Rental income and expenses

• Any capital improvements you make

These records become crucial when calculating future capital gains.

Insurance & Mortgage Requirements

Changing property use may require:

• Updated insurance coverage

• Notifying your lender about the change

• Possible adjustments to your mortgage terms

Final Thoughts: Plan Ahead to Avoid Expensive Mistakes

Turning your principal residence into a rental property can be a smart financial move—but it also introduces complex tax rules that can significantly affect your bottom line.

Before you convert your home:

1. Determine whether the 45(3) election is right for you

2. Avoid claiming CCA unless you understand the long-term consequences

3. Plan for proportional capital gains taxation if no election is filed

4. Consult a tax professional for personalized advice

Proper planning can protect your principal residence exemption and save you tens of thousands of dollars in taxes.

If you’re considering renting out your home and want help understanding the tax implications, feel free to reach out—I’m always here to help homeowners make informed, tax-smart decisions.

Contact The Fisher Group – Your Real Estate Experts in Oakville and the GTA

Fisher Yu
📱 647.598.8488
📧 [email protected]
🌐 thefishergroup.ca