With rising home prices many homeowners nowadays are looking at offering rental suites to tenants in order to assist with monthly mortgage payments. The income generated from rentals can be a great “mortgage-helper” to any household. In turn, interest rates have been at all time lows and purchasing that condo, cottage, or house as a second rental property can be a great investment.
An outlook many landlords have on reporting income generated from a rental is to keep this amount undisclosed in order to keep more cash away from the taxman. This article will go over why it is necessary to disclose this income to Canada Revenue Agency (CRA) not only to satisfy tax law, but for your benefit as well.
Definition of Rental Income
Rental income is simply defined as any earned income as a result of rental property you own or have use of. Rental income includes houses, apartments, rooms, office space, and other real or moveable property.
Whether your rental is an apartment or an illegal (secondary) suite, CRA still requires you to disclose any income. A large concern of many owners of illegal suites is being exposed to municipal authorities. Generally, all information provided to CRA from taxpayers is protected under strict privacy law. In the eyes of CRA, income not earned legally is still simply considered income; the same as any other legal income earned. It is not in the interest of the CRA to report illegal suites to different municipalities, but to ensure all income included for tax purposes.
The largest benefit to disclosing rental income on your tax return is the ability to reduce income by claiming deductible expenses. Most landlords spend a large amount of money on expenses directly related to earning rental income; these expenses are not deductible if a landlord does not disclose this income to CRA. The following are a list of common current expenses that can be deducted against rental income:
ie. Cost incurred relating to cutting the lawn at the home would be considered regular; however, replacing the lawnmower itself may not.
Other expenses not listed above may still be deductible if considered “reasonable” in earning rental revenue. With all the deductions available to owners of a rental property, the result of properly reporting income can result in a tax saving. Owners with high income from other areas, if planned properly, can end up reporting a loss and reduce their overall tax payable.
Consequences of Not Disclosing Income
Dealing with a CRA audit can be a very stressful situation. Not disclosing any type of income can result in numerous consequences.
The first being the “Failure to Report Income Penalty”. This penalty simply charges 10% of the total amount you failed to report on your tax return. Interest is compounded daily on this amount backdated to the date owed.
The second category this may fall under is “False Statements or Omissions Penalty”. This penalty is commonly known as gross negligence. If CRA deems you to have falsified your tax return they have calculated the following gross negligence penalty:
The greater of:
50% of the understatement of tax and/or the overstatement of credits related to the false statement or omission.
If any non-disclosed amount is voluntarily reported to CRA you may qualify for the “Voluntary Disclosure Program” which could waive you of any penalties. If you find yourself in a situation like this, consult with your professional accountant to determine the best course of action.
If your rental property is a portion of your home (principle residence) you need to ensure no capital cost allowance (CCA) is taken. A principle residence is exempt from capital gains, a great advantage when holding a property and selling for a profit. By claiming any amount of CCA on your property, you may not be able to claim it as a principle residence and therefore not be exempt from capital gains when selling.
In the case of a second property, you can claim CCA, which in turn reduces your taxable income related to your rental property. When a rental property, that is not your primary residence is sold, you must report capital gains earned on the sale. Failure to report capital gains will result in severe taxes and penalties from CRA.
Withholding income from CRA can not only cause you trouble, but can also leave you missing valuable deductions. Before you get a knock on the door from the taxman, speak with your accountant to help with important tax planning.