When you convert your home from a principal residence to a rental property, the Canada Revenue Agency (“CRA”) treats it as if you sold your house to yourself at a fair market value and then immediately reacquired the property for the same price, even though you didn’t actually sell it. Normally you have to report the sale on your tax return, and any capital gain, in the year that the change of use occurs, unless you file an election under section 45(2) of the Income Tax Act. If the property was your principal residence prior to the change of use, you don’t have to pay tax on the accrued gain for any year you owned it before you changed its use.
You can make an election under under subsection 45(2) of the Income Tax Act not to be considered as having started to use your principal residence as a rental property. The means that you can indefinitely defer the deemed sale and avoid paying the capital gains tax until you sell the property or revoke your election. The election should be made when the change in use happens. You can also designate the property as your principal residence for up to 4 years, even if you do not use your property as your principal residence. However, you must be a resident or deemed resident of Canada during those years in order to designate the property as the principal residence.
To make this election, attach a letter signed by you to your income tax return for the year in which the change of use occurs, describing the property, and stating that you want subsection 45(2) of the Income Tax Act to apply.