Terry McBride: Personal finance column for June 17, 2013
Buying a revenue property
Have you recently acquired a rental property to earn some steady cash flow?
If so, you should keep good records of your rental income and expenses.
There are two ways you can make a profit from owning a rental property.
One is the steady cash flow from the rent you collect from your tenants. The
other is a capital gain when you sell your property.
Rental expenses
Assuming you expect to profit from collecting rent, use schedule T776 to
report the revenue and expenses on your tax return.
Typical rental expenses that you would claim on schedule T776 include
property tax, insurance, maintenance and mortgage interest.
At the time of purchase, you and the vendor normally share in paying the
year’s property tax. On the lawyer’s statement of adjustments you can see
how much you can claim as a rental expense.
As an income-splitting tactic, consider paying wages to a low-income family
member who can do repairs and collect rents. Claim reasonable wages as a
rental expense.
Mortgage interest is often your biggest rental expense. In the early years of
the mortgage loan schedule, a large portion of the payments is interest. Near
the end of the mortgage schedule, payments consist mostly of principal.
Adjusted cost base
Certain cash outlays are not immediately deductible against current rental
income. For example, you would add legal fees to your purchase price to
increase your Adjusted Cost Base (ACB) rather than claiming them as rental
expenses on schedule T776.
What if the building is older and you decide to fix it up first to make it
suitable for tenants? New shingles or new carpeting, for example, may be
necessary renovations. Rather than claiming such improvements as current
expenses, you would add those costs to the ACB. Keep a running total of all
the additions to your ACB to reduce your capital gain when you sell your
property.
Capital cost allowance
The cost of the building and renovations can be claimed as a Capital Cost
Allowance (CCA) expense gradually over a number of years. Typically you
add the building cost to Class 1 to begin claiming CCA at four per cent.
The starting Undepreciated Capital Cost (UCC) is not the same as the ACB.
You cannot claim CCA on the value of land. Once you have calculated your
ACB, you should exclude the land value to determine the value of the
building to be added to Class 1.
Claiming CCA is optional. If you do claim CCA you know it can come back
to haunt you later. If the property holds its value you will eventually report
recaptured CCA as income.
Claiming CCA is like claiming an RRSP deduction. You shelter income for
a while. Then, years later, you pay tax when you sell your property.
If you provide appliances such as a fridge and stove for your tenants to use,
you should claim a percentage of the cost as a CCA expense for wear and
tear. The CCA rate for appliances is higher than the CCA rate for a building
because they’re not expected to last as long.
Large CCA and interest expense claims may give you zero net rental income
to report in the early years of ownership. Eventually, as CCA and interest
expenses decline, net rental income grows.
RRSP room
Fortunately, rent counts as “earned income” for the purpose of generating
new RRSP room. Rather than maximizing RRSP contributions each year
consider banking some unused RRSP room. Then, at the time you sell your
rental property you could claim a big RRSP deduction to offset the income
from recaptured CCA.
For further information read Canada Revenue Agency Rental Income Guide
T4036.
Terry McBride, a member of Advocis, works with Raymond James Ltd. (RJL). The views of the
author do not necessarily reflect those of Raymond James Ltd. (RJL). Information is from sources
believed reliable but cannot be guaranteed. This is provided for information only. Securities
offered through Raymond James Ltd., member of the Canadian Investor Protection Fund.
Insurance services offered through Raymond James Financial Planning Ltd., not a member of the
Canadian Investor Protection Fund.
June 1, 2013