# Tax on rental property?



## ShannonC (Nov 16, 2012)

I have a condo that's fully paid off (condo fees + property tax = $500) that I'll be turning into a rental for a while. I'm just wondering what's best from an income tax perspective. 

If I leave things as-is, I'll have a positive cash flow of around $900. 

If I were to take 80% of the equity out of the condo (160k), my positive cash flow would drop down to around $50 per month. 

If I were to remove the money, it'd likely go towards paying down a principle residence mortgage. 

Is one the better option than the other? 

And if I were to recognize the larger cash flow/income of $900, is that $900 monthly basically just added to my yearly personal income and taxed accordingly with the rate I'm at there or does rental income have a special rate on its own? I was searching online and seem to be coming across various answers to this one.

Any help/advice would be great.


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## heyjude (May 16, 2009)

The income from your rental condo, net of expenses ($900/month) will be added to your other income and taxed at your marginal rate. If you take out 80% of the equity and pay $850/month on the mortgage, the portion of the mortgage that is interest (not principal) will be tax deductible. This is most effective in the early days of a mortgage when most of your payments go to interest. So let's say your net rental income is $50/month, you pay $850 on the mortgage every month, and initially, $800 of that mortgage payment is interest. Your net taxable income from the condo would be $50-$800, or a loss of $750/month. This is because investment debt payment is tax deductible, while residential debt payments are not. If you use the equity from the rental condo to reduce the principal on your residential mortgage, you have effectively converted non-tax-deductible debt to tax-deductible debt. This is a good thing! You will still be able to sell your home without paying tax on capital gains.


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## stardancer (Apr 26, 2009)

If he takes out a mortgage on the rental property and uses the money to help purchase a principal residence, the interest is not deductible against rental income. CRA looks at the use of the funds, not at the source; so- although the $$ came from a rental, the use was for a principal residence.


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## heyjude (May 16, 2009)

stardancer said:


> If he takes out a mortgage on the rental property and uses the money to help purchase a principal residence, the interest is not deductible against rental income. CRA looks at the use of the funds, not at the source; so- although the $$ came from a rental, the use was for a principal residence.


If that be the case, there is nothing to stop the OP from investing the money instead.


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## Just a Guy (Mar 27, 2012)

There are ways to take equity out of your rental and turn it into a loan which can purchase your principal residence while being tax deductible...unfortunately they seem to be long and complicated ways to create the required paper trail...

One of the ways is to "sell" your rental to someone you know, pay the capital gains, purchase your primary residence with the proceeds, get a heloc or mortgage on your primary residence, then repurchase your rental...for example...there are other ways.

Why CRA won't just recognize the common sense repurposing of funds is probably just government make work.


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## ShannonC (Nov 16, 2012)

Thanks for all the replies on this - very helpful!  

That's really too bad about the fact using the equity as a down payment means it's not tax deductible. I just recently paid off the mortgage; I should have held off. 

I could look into selling it though - actually I own my own business so perhaps my business could buy it; that'd be better anyway since income in the business is taxed far less than my personal world. That may be more complex though to have the business buy it. 

But if I left things as-is and realized the $900 of profit, if I understand correctly, right now I pay myself in the form of a dividend with my business (so I basically choose how much to pay myself - based on my need). So I could theoretically just pay myself $900 less from my business, keep that money in the business taxed a a the lower rate and add the $900 to fund my personal needs and still pay the same taxes, correct? 

Or am I misunderstanding... ? I have pretty much direct control how much I claim as personal income so if I have an extra $900 coming in from the rental, that's that much less I need to pay myself from the business.


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## heyjude (May 16, 2009)

You have complete discretion about how your business pays you. Of course every decision has tax implications. If the business has a large capital dividend account, paying out dividends will save you some business tax. The composition of your personal income also influences how you are taxed. Rental income is treated as Ordinary Income, which is taxed at a higher rate than Eligible Dividends. To model your personal scenarios, I suggest inputting you data in some of the calculators at taxtips.ca. I would also suggest discussing it with your accountant. 

In retrospect, it would probably have been a good idea to pay down the residential mortgage while keeping the mortgage on the rental condo. But that's water under the bridge now.


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