Although no investment is a “sure thing”, real estate has shown its mettle as an investment vehicle over the years. If you employ a cautious investment mentality that includes in-depth research into all areas that surround each investment property purchase, you can prudently secure your retirement future.
Because most types of investments (including real estate) generates income, your porfolio is subject to taxation. So what are the associated taxes and what choices or exemptions are available? This is an oft misunderstood, and at times a neglected part of due diligence when it comes to fully understanding the true costs of property investment (click HERE for a recent article on tax tips for property investors in the Financial Post and HERE for Revenue Canada’s rental income guide).
There are steps and strategy that property owners and investors can take to alleviate (or defer) the tax burden associated with property investment. Tax laws, no question, are complicated, and many situations warrant specific attention to individual detail, which makes for compelling reasons to seek advice from a professional. We certainly recommend it, but here are some guidelines:
Focus on the Paper Trail
In order to benefit from any of these tax deductions, it goes without saying that you need detailed and accurate documentation to substantiate the claims.
This includes everything relating to your property and expenses incurred, like invoices, receipts, contracts or any other supporting documents that might be relevant. As a rule, if you think it might potentially be relevant, keep it.
Separate Property, Separate Financing
Are you borrowing money to fund the purchase or to conduct repairs on your investment property? Make sure that your financing (whether it be a mortgage or a line of credit) is separate than other credit facilities to ensure that you are eligible to deduct interest on the money borrowed to purchase or repair the property.
You may be eligible for deductions made for expenses in making repairs to a property. Careful though - there is a difference from a tax perspective between “repairs” and “improvements”. Essentially, repairs contribute to the overall maintenance of a property to keep it in good working condition, without significantly increasing the value of the property (which an “improvement” - like adding an addition, would do).
For renovations (for things like structural improvements, or making a property accessible for someone with disabilities, for instance), there are potential deductions as well, but they are treated differently (which is explained in greater detail in the Revenue Canada link above).
Although the certainty of paying taxes is for sure, property investors do have options- namely do I pay now or pay later?
One tool available for property investors is the Capital Cost Allowance (CCA), in which they can elect to defer rental income from current year’s taxation, pushing it forward to further years. It works by amortizing a portion of the cost of the rental property against the income derived.
Revenue Canada defines it as “– the deduction you can claim over a period of several years for the cost of depreciable property, that is, property that wears out or becomes obsolete over time like a building, furniture, or equipment that you use in your business.”
Like all tax decisions, pros and cons must be considered- both in the present day and in the future, especially when it come what may lie in store from a tax perspective. While this might seem attractive today, payment of taxes on the income is still required at some point (you are not removing, simply deferring).
The potential pitfall is that when you choose to sell the property, the CCA will be added back in the year that you sell property, if you sell the property for less than the un-depreciated capital cost at that point in time (which is calculated with the cost of your property minus the CCA claimed on prior tax returns).
The key here is to really consider your time horizon for holding the property. Is this a long-term investment? Are you looking for shorter-term turnaround? Will funds from the sale push you into a higher tax bracket? Generally, the CCA as a tax deferral tool is better if your horizon stretches out.
This can be complicated and tricky. For a good, comprehensive of how some of the basics operate around this, visit the Revenue Canada Website FAQ’s on the CCA .
Flips May Flop
Looking to buy a fixer-upper and then turn around in quick succession to make a quick buck? While swift appreciation in property value may happen, there are tax implications that could potentially seriously erode your return on investment.
Capital gains (which are generated when the value of a capital asset, like a property, increases in value above the price that you paid for it) are often a good tax strategy because capital gains are taxed at a lower rate than other types of income. However, not so fast, says Revenue Canada.
From their point of view, this becomes about time frame and the nature of the activity, even if the property in question is considered your principal residence (i.e. Revenue Canada could view the quick sale as a business activity that generates straight income, and is therefore taxable at a higher rate than that at which capital gains would usually receive).
Again, while property investment and purchase can yield big results, things are rarely cut-and-dried, which underscores the value of good advice, research and thorough due diligence.
Have you been thinking about becoming a property investor or about expanding your portfolio? Urbaneer has an innate sense of the market, years of expertise, as well as much hands-on, personal experience in property investment- meaning the guidance that we can provide is accurate, timely and comprehensive. Furthermore, we know that there is far more at stake when making an investment property purchase, beyond the transaction. Let us help you translate our experience into wise property purchases for you, with a no-pressure approach.
~ Steven and the urbaneer team
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