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Every year, many of us look for ways to maximize our returns and lower our taxes. If we can’t eliminate them, we try to figure out a strategy to get the most from what we must pay.
As the interest rate environment is attractive, one might want to take a look at acquiring some rental properties. They are relatively affordable and if you have the ability, rentals make for nice retirement income. Since you generally must report the rent collected as income, you are also entitled to make certain deductions.
While most businesses use the accrual method for tax reporting purposes, in practice the Canada Revenue Agency generally allows you to report rental income and expenses on a cash basis as long as there are no significant amounts outstanding that would distort the income statement, which is submitted on Form T776, Statement of Real Estate Rentals.
This appeals to most small investors with only a duplex or triplex, as it is easier to understand.
Deductible expenses include advertising, property insurance, mortgage interest, utilities, and routine maintenance and repair costs. Legal fees to prepare leases or collect overdue rents are deductible, as are bookkeeping or accounting fees. Salaries, wages and related benefits paid to superintendents, maintenance personnel and others you employ to take care of the rental property are also deductible.
Office supplies related to your rental operation, such as pens, pencils, stamps and stationery may be deducted, but not capital items like calculators, filing cabinets, furniture or appliances. Instead, these assets are depreciated, which is more formally known as claiming capital cost allowance.
This is an optional deduction, and any amount can be claimed up to a specified percentage of the undepreciated capital cost of the asset.
You can only claim it, however, if your rental operation has a profit, and only to the extent of that profit. In other words, capital cost allowance cannot be used to create or increase a rental loss.
A rental loss results whenever your rental expenses are greater than rental income. Such a loss is deductible from your other income, like what you earn at work, provided your rental operation has a reasonable expectation of profit (think arm’s-length tenant).
If the rental property is part of your personal residence, common expenses must be prorated. If the rented part is a minor part of your residence and no structural changes were made to accommodate tenants, the whole property may continue to qualify as your principal residence as long as you do not claim capital cost allowance on the rented part.
This is important when you sell the property or convert it to another use, as the rental portion may otherwise be subject to capital gains tax. The sale or conversion of a rental property results in a capital gain or capital loss, depending on whether the property went up or down in value.
Unlike other types of income, only half of the capital gain is taxable. If the rental property qualifies as a principal residence, of course, any gain is exempt from tax.
If you have the ability to be a landlord, now appears to be as good a time as any to jump in.