Whenever you’re dealing with a real estate transaction between parent and child in Toronto, including in the nearby communities of North York, East York and Etobicoke, there are many things to consider.
It is important to consider property taxes when transferring property ownership from parent to child. Sometimes transferring property to the next generation is part of a legacy left behind after a parent passes away and may involve a transfer-on-death deed. Other times, it involves transferring the family home or gifting property to adult children.
Whatever the situation, it’s always a good idea to seek professional advice to ensure that the tax consequences are well-understood and that it receives the best tax treatment possible for both you and your child when you transfer property.
5 Pitfalls From Transferring Property to Family Members and Their Capital Gains Tax Implications
Income Attribution
The first potential issue is the income attribution rules, which apply when giving rental property to a child who is under the age of 18. In that scenario, the attribution rules require any income earned from the property to be attributed to the parent until they turn 18, affecting the parent’s taxable income. The same attribution rules apply to gifts from one spouse to another. The income will be attributed to the spouse giving the property to be included on their tax return rather than that of the one who received it.
2. Less Than Fair Market Value – Double Taxation
Another potential pitfall involves selling property to family members for below fair market value. Doing so will result in double taxation. For example, selling a property to family members for $5,000 if the fair market value for the property is $250,000 will result in deemed proceeds of $245,000.
In this scenario, your capital gain will be $245,000, so half of that will be subject to the capital gains tax. However, your family member’s cost will be $5,000, and if they sell it later for $250,000, they will be taxed on the same capital gain of $245,000, resulting in double taxation.
3. Capital Gains on Transfer of Property
In addition to the land transfer tax, and other taxes, your tax planning when giving property to family members as a gift should also consider the tax implications, including the capital gains tax. You will have to pay the tax on your capital gain if the property has increased in value since the time you purchased it. Canada considers gifted property as having been sold at its fair market value.
To defer capital gains tax, the tax rules allow a tax-free rollover automatically at a cost to a spouse or common-law partner. However, to use capital losses to offset your capital gains, you will need to elect to opt-out of that automatic tax-free rollover, which will increase your spouse’s cost of the property to its current market value. The election will be denied if it is made to trigger a loss.
4. Principal Residence Exemption
Perhaps the most common way to avoid a capital gains tax is to make the property your principal residence. The principal residence exemption is only available if you report the sale and designate the property as your personal residence in your tax return for the applicable year.
5. Alternatives
In Canada, it isn’t advisable to transfer ownership of real estate to family members for anything other than the fair market value. However, an alternative would be to give the person cash they can then use to purchase the property at the fair market value. Another option is to loan money to the spouse or child that will allow them to buy the property at a fair market value. However, they must pay interest with their mortgage payments as set forth on the loan amount in equitable financial arrangements on or before January 30 of the following year. That interest income must also be included on your income tax return if avoiding attribution rules pertaining to any income on the property is on your mind.
Estate Planning To Transfer Real Estate Portfolio to Children
If you own real estate that you want to transfer to your child as part of your legacy, you have a few options. A revocable living trust is one option because you can always change or revoke the terms of the trust whenever you want. A trust also enables you to transfer your assets before your death to avoid probate costs after you pass away. However, if you are hoping to eliminate taxes on any transfer, you will discover that no option is tax-free. The key is to reduce the tax burden on your heirs.
Determining the property’s fair market value is crucial to understand potential gift tax liabilities and capital gains tax calculations, especially when considering exemptions and appraisals.
Inherit a Real Estate Portfolio Without the Headaches of Day-to-Day Property Management
If you’re on the receiving end of real estate or other assets in Canada, like Toronto’s North York communities of Downsview, Bayview Village, and York Mills, there is much you will need to be aware of other than having enough money to pay the taxes on the transfer. If you don’t wish to sell the property but do want to earn some income on it, it would be a good idea to hire a property manager, both to help with the transition and to handle everything required in the day-to-date management of it.
Include a Property Management Company as Part of the Transition Plan
If you’re planning to leave real estate in Canada to your child, it’s a good idea to hire a property manager in advance to ensure that the transition goes smoothly after your death.
Recommendation from Estate planners
Most estate planners recommend that their clients who own real estate in their portfolio consider hiring a property management company to help with the transition and management of their real estate assets.
Hiring a Property Management Company
Of course, hiring a property manager requires that you can earn sufficient income from your real estate. A professional can help you maximize your income and ensure that you have enough funds to continue the daily management of each unit.
Help With the Transition of Real Estate Assets
There is much to learn when it comes to moving real estate assets to your heir. If you own one or more rental unit, you should remember that your child or spouse might not know anything about owning and renting out real estate. As a result, having a property manager in place before you pass away will be invaluable to them.
Management of Their Real Estate Assets
Part of a property manager’s job involves maximizing the monthly income earned from any real estate. They also handle the daily operations, which include collecting rent, handling maintenance requests and more.
Assistance With Real Estate Management for Smaller Investors
Families with multi-generational wealth and family offices always had access to property management companies to assist with real estate management. Now smaller investors are getting the benefits of doing the same to grow their portfolios.
Final Thoughts
Sometimes upcoming events in your life like a marriage cause people to reevaluate their situation. In Canada, deciding to sell or give real estate to a child has certain implications that go beyond the money added to their bank account. Depending on how you decide to do things, the amount of after-tax dollars left can differ greatly. As a result, it makes sense to consult a property manager about the best course of action.
