I’ve met with a several clients in the past few months regarding their cottage (or recreational property). There sure are many myths and mixed messages around cottages regarding taxes and what happens when you die.
I will discuss the tax issues surrounding the capital gain and then some estate planning issues if you plan to leave it to your family in your Will.
First let’s dispel some myths some people have about the cottage and capital gains. More than once I have had clients believe that as long as they sell their home and move to the cottage for a period of time, that they will not face any capital gains. They are wrong.
You have a potential capital gain for the period of time you own more than one home. You can only have one principle residence at any one time. Regardless of which one you sell first.
The misunderstanding may be that if you do sell your home and move to the cottage, you do not have to claim the capital gain at that time.
True, but you do claim the capital gain (for the years you owned two properties) on the cottage when you sell it or gift it or you die.
Here’s the problem. By not claiming the capital gain when you sell your home, you are implying to Canada Revenue Agency (CRA) that your home is the principle residence and the cottage will have the taxable capital gain and that may be much higher than the capital gain on your home. Either one can be considered your principle residence; the other one you will claim as taxable property.
So when you sell either one, get some tax advice at that time. Better yet, do some calculations now while you still can find and organize all your numbers: what you paid, what capital improvements you have made on each property (and have receipts to prove it) and what both properties are worth now.
I’ve had clients ask me what if they do not “self report” to CRA? The short answer is “that is called tax evasion!” That normally gets their attention.
My longer answer is CRA has access to the paper trails (most property transactions are tracked at the Manitoba Titles office) so eventually they will find out you disposed of property and didn’t report it. Then they reassess your taxes (and maybe after you have died and your family has to deal with it). CRA may estimate the capital gain high and leave it to you to prove them wrong. Don’t leave this mess to your children or other family members!
Another myth is if you gift the cottage to your children or add them as joint owners, there is no capital gain. Wrong again. CRA considers you to have disposed of the property at “fair market value” if you received nothing or much less than the market value.
The bottom line is the moment you own two properties, you will likely face a capital gain on one of them in the future. The good news is you can pick the one with the lower capital gain, but get professional help!
When it comes to Estate planning, many want to keep the cottage or recreational property in the family. This may be difficult.
The best way I have seen to deal with the cottage in the Will is to provide a “right of first refusal”. You can instruct your executor to keep the cottage for 24 months allowing all family members to use it and the estate pays the ongoing operating expenses. Then after two years, have an appraisal done and then one or more combination of beneficiaries has the opportunity to purchase it at the appraised value, and those who do not want to own the cottage will still receive their share of the value of the estate. And if no one wants it or cannot afford it, then it is sold outside the family and the cash is divided.
Don’t leave the cottage to everyone in the Will thinking “they will get along or work it out”. Believe me that rarely happens. Give a certain time period and then provide the right of first refusal. This reduces hard feelings and keeps everyone friendly.
A new idea came about when talking with a client who has two children and wants to leave the cottage to one child and the home to the other child. After solving the capital gains and tax issues and future cash flow issues when the home is sold and move to a retirement home, we came up with the idea of a credit line with the cottage as collateral to make the “net assets” more equal to the two beneficiaries. This plan would need to be reviewed yearly and explained to the two children now.
There are many ways to deal with the capital gains and the resulting taxes and the Estate planning for the cottage or recreational property. And everyone situation is different so get some professional advice!
Last month I wrote about Service Canada in Ste Anne monthly at the Manitoba Bilingual Service Centre at 30 Dawson Road (next to my office). I was happy to hear many people took advantage of it and the Citizen Services Specialist was busy. She is are back on Thursday October 20 from 930 to 330. And the third Thursday of November and December.
Service Canada helps you access programs such as: Canada Pension Plan (CPP), Old Age Security (OAS), Employment Insurance (EI), Social Insurance Number (SIN), Apprenticeship Grants, Canada Education Savings Grant and the Canada Learning Bond.
I recommend you visit the office to get on-line access to My Service Canada Account so you can access information about your CPP and OAS. Then you can see how much your CPP is estimated to be when you retire at 60 or 65.
With on-line access, you can also change your address or update your banking information. Changing the address for Service Canada can only be done through My Service Canada Account or via phone (hard to reach someone), so I recommend you get My Service Canada Account set up now.
Anni Markmann is a Personal Income Tax Professional and Certified Financial Planner; living, working, and volunteering in our community. Contact her at 204.422.6631 or 36 Dawson Road in Ste Anne (near Co-op) or Info@SteAnneTaxService.ca.