What expenses can I deduct for my investment in real property?
This is one of the few questions accountants are asked to answer where we don’t have to reply “It depends . . . “
We should start by referring to the Income Tax Act [ITA] and the general principle that defines:
A deductible expense is an expenditure incurred to earn income… immediately or within the near future. [i.e. a few years].
Canada has a voluntary tax reporting system. CRA provides tax forms to assist taxpayers in filing their tax returns. CRA promotes taxpayers to file tax returns by providing reference resources.
An excellent schedule for summarizing real estate revenue and expenses is provided in form T776. This form lists all the expense categories incurred for real estate investments, specifically:
- Interest (Mortgage, other)
- Maintenance and repairs
- Management and administration fees
- Office expenses
- Professional fees [legal, accounting, other]
- Property taxes
- Salaries, wages and benefits
Most of the above expense categories are clear cut and obvious.
A few of these categories can be interpreted to cover discretionary payments.
- Consulting and training can be included in professional services or added as an additional expense category.
- Incentive payments including meals to engage new tenants or discharge irresponsible existing tenants can be included in administration fees, as long as the amounts are not large.
- Collection costs and write-off of uncollected rent can be reported separately as bad debts or deducted from gross rent received.
Tax return preparation software permits recording totals for expense categories on the T776 form. The net Income / (loss) is carried forward to the T1 Income summary section. A completed T776 form provides a clear summary of the rental property operation and can be kept as a personal record of investment performance.
Depreciation is a deduction left until the very end of the T776 form because it can be modified at the taxpayer’s discretion. Buildings [not the land], like vehicles, wear out over time, only, not as fast. For tax purposes, CRA uses the declining balance method for claiming an amount that represents the use or consumption of the property over time. The declining balance of tax value remaining on a property is defined as Undepreciated Capital Cost [UCC] and the amount written off as expense is called Capital Cost Allowance [CCA].
A common sense approach is used to decide how much CCA should be claimed. Any amount of CCA can be claimed up to the maximum rate permitted By CRA. For Class 1 buildings this is 5% of the UCC. CCA should not be claimed to create or increase a loss.
Some accounting practitioners strongly recommend never claiming CCA on real property. On sale of the property, the selling price will likely be higher than the purchase price. Any CCA claimed will be considered recovered and added to income. This treatment has caught many property owners by surprise and some have become upset.
This article, summarizing real estate deductions, has committed almost as much space to the explanation of CCA as it has to property expenditures overall. In accounting circles we jest that CRA has created the CCA rules as a gift to accountants to ensure they are engaged full-time. Taxpayers prefer not to work through all the CCA considerations and retain accountants to assist them. With that in mind, please feel free to contact us to present any questions you would like to discuss.
Bel Voegelin, CPA, CA
Real File CPA