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Rental income - T776

*Technical question

A sole proprietor is the owner of a home - uses a portion of the home he occupies for business. (business-use-of-home expenses)

Rents basement to tenants

House has a main floor and upstairs occupied by owner (2/3 of house) and basement occupied by tenants (1/3 of house)

Owner pays mortgage interest and property tax. There is one bill for utilities: heat & electricity - owner pays. One bill for maintenance - owner pays.

Is it correct to enter 2/3 of the mortgage interest, property tax, utilities, maintenance in Part 7 - Calculation of business-use-of home expenses (prorated to Area for business use only) and the other 1/3 in the T776 along with the rental income?

Thanks Kindly

Related question:
Did this owner obtain a property appraisal from an Appraiser on the date of the commencement of the change-of-use of 1/3 of the property to income-earning property?
Best to ensure that is carefully and properly documented now, since there will be a taxable Capital Gain on the increase of that 1/3 portion when disposed of.

In addition, he may be looking at Tax on Capital Gains issues on part of this other 2/3 too, since he is claiming that even less than the 2/3 is personal use principal residence, so his “Business use” will need to be carefully looked at. Such Capital Gains might dramatically wipe out any savings he believes he may be currently making. Sounds like he needs tax planning to be carefully considered.

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Joe,
You may have read the percentages backwards as I did the first read through. Maybe I am still backwards!
I have been in several seminars around this issue and as long as the property is “substantially” used for personal use then 100% of the property is still considered 100% principle residence. Now “substantially” is not defined in the income tax act, as with many, many other words. We have been advised by different experts that 50% personal use is a minimum but they recommend claiming no more than 40% (business/rental) and therefore 60 % personal use. No “Change of use” is required to be filed, no appraisal, no capital gains. In this case I believe NiceGuy is claiming 66.67% personal and only 33.33% rental. This is a very safe percentage from everything we have learned and studied.

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I would suggest that the short answer is “YES”

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And, remember, never, ever claim CCA on the rental portion of your home.

Harley Hemeon, B.Sc., CPA, CGA

Harley Hemeon Inc.

1639 Eastern Shore Rd.

West Berlin, NS B0J 1H0

Halifax office:

213 – 30 Chipstone Close

Halifax, NS B3M 4H5

Cell: (902) 483-8193

Fax: (902) 356-2716

West Berlin: (902) 354-3250

Halifax: (902) 407-0360

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@tim1
Sorry, I stand by my post above.
Care should be taken.

See ITA S45(1)(b) (Strictly: ANY part used for some other purpose)

Administratively, CRA are slightly more generous than that (See T4037 (etc))
“However, you are not considered to have changed its use if all of the following conditions apply: (1) your **rental or business use of the property is relatively small in relation to its use as your principal residence (2)… etc”
…“If only a part of your home qualifies as your principal residence and you used the other part to earn or produce income, you have to split the selling price and the adjusted cost base between the part you used for your principal residence and the part you used for other purposes (for example, rental or business).”

CRA used to use the administrative words “Incidental”. Now it seems they prefer “relatively small”
In any event, the person referred to above is certainly not using the whole house “solely as a principal residence, except for renting out a small guest room to an exchange student for a school term”.

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@NiceGuy
I agree with @obhorst - short answer is yes.

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Is there a reason why wouldn’t your just put 100% of the costs on both schedules and claim the applicable proportion for that enterprise? Better audit trail.

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gaywise is correct. The full amounts go on the schedules and the “Personal use” percentage entered to get to the correct deduction.
Personal use on the rental schedule includes the office space and Personal use on the business includes the rental.
I’ve got both a rental and my office in my home, been audited, passed with flying colours. The auditor actually told me that this calculation was exactly what they were looking for because so many preparers get it wrong.

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Hello @dklassencga thank you for your response!

What was your split between personal and the rental and home office?

@tim1 you mentioned:

thanks for your response! Do you have any references/articles etc. on this personal use minimum?

uh-huh…
So this owner wants to have 33% (personal) Principal Residence (.66 x .5) and 66% Income earning (.33 + .33)?

IMHO, Good luck with thinking that the Principal Residence status will apply without apportionment…

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I was thinking the same thing as Joe. I don’t know what “expert” would recommend upwards of 40% business use on a home. CRA looks at square footage used. Maybe that’s not always the best way but that’s what they look at. I don’t recommend my clients exceeding 20%-25% business use unless they have a very good reason that can be backed-up. I’ve never considered myself overly conservative but maybe I have to re-think that one.

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I had a client that used upper floor as living quarters and lower level as business. I split expenses 50/50 except for hydro which was a much higher percentage business because of electric ovens and a heavy duty dough mixer. It was obvious that the lower level was not personal use. I did not take CCA though. She sold the house but bought another one which will also be business and personal so there will not be any tax consequences.

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I can see that and have done the same in similar cases, and when they sell, the PRE is pro-rated. However, where you’re just running a business from your home, 40% business use is taking a risk with your PRE.

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Thank you @joe.justjoe1 - your comments are GREATLY appreciated.

To clarify, actual #'s:
25% of home (basement) - rental income
Remaining - used by owner (40% business use / 60% personal)

However, the client does not wish to trigger potential future capital gains/impact Principal Residence status to claim business use of the home (more conservative). - suggestions anyone?

So it is actually 55% business and 45% personal. Perhaps if those numbers were turned around?

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@obhorst Thanks appreciate your response!

Most of us are waiting to see how the court’s define this since the change in wording is relatively recent.

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“House has a main floor and upstairs occupied by owner (2/3 of house) and basement occupied by tenants (1/3 of house)”

If a client wants to lie to me like that, I would tell them to take a hike.

40% Business?? What, does he have? - a factory in the living room, and a warehouse in the dining room, and manufacturing clothes machines in the hallway, and a commercial bakery in the kitchen, and a plumbing repair business in the bathroom, and he sleeps in the other half of the basement?

And even if the above were true, I would tell them to take a hike for being financially obtuse in foregoing their Principal Residence tax shelter portion without taking professional advice first…

If it doesnt make sense, it probably isnt true…

… Well, maybe the above is a bit strong, but personally, I believe that I might have my “healthy skepticism” hat very firmly on in such a circumstance, and get hard and firm evidence for any position…

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