Let’s start off with what we know: The Liberal Federal government currently DOES NOT have any plans to put in a capital gains tax on principal residences in Canada. Still, the CMHC (Canadian Mortgage and Housing Corporation) has reportedly received $250,000 in Federal funding to research whether a capital gains tax on principal residences could reduce wealth inequality between generations and discourage house flipping. It is led by a University of British Columbia professor that researches and advocates for Canadians in their 20s, 30s and 40s. Even though the current government has denied that they will tax capital gains on principal residences, Covid-19 has unavoidably created a great deal of debt from this pandemic that will need to be paid off somehow at some point. It may take a new tax to fund this debt. So, this government (or a different one) will be looking for ways to pay off this debt. This capital gains tax on your principal residence would certainly be one way to pay off some of that debt and generate a great deal of of money.
It may sound like a good idea to some; Paying off debt, levelling the playing field between generations, but I don’t believe it will play out this way if implemented.
Before we get into with what could be, let’s revisit what currently is the case when it comes to capital gains tax and real estate.
Right now, you must pay capital gains on any property that is not your principal residence. So, if you own a house and a cottage that you bought three years ago, and you want to sell them both now, this is what will happen: Over that three years, you would have made equity gains on your house and cottage. So, if you paid $800,000 for your house and it is now worth $1.1 million, then you’ve gained $300,000 in equity. If your cottage was worth $350,000 when you bought it, and it’s now worth $450,000, you have gained $100,000 in equity. If you claim your house as your principal residence, then the $300,000 in equity is not taxed for capital gains. It’s all yours. Since you currently can only have one principal residence, then the capital gains you made on the cottage, the $100,000 would be taxed.
If the capital gains on principal on your residence was put into place, your $300,000 equity in our house would be taxed for capital gains as well.
Again, this is not a tax that is under consideration. Still, there has been a suggested guideline on how that capital gains tax would be brought out. Basically, you would pay it for five years with each subsequent year having less tax to pay. You would have 50% tax on any profits after the first year. 25% tax after two years. On your last (fifth) year, you would pay 5%. It appears the idea is to target properties that turn over more often, and have people be rewarded for staying put in their homes longer.
This doesn’t necessarily sound like bad stuff. So, why do I think it’s a bad idea?
Let’s start with what this capital gains on principal residence tax will do to the real estate market. First a start, it will discourage investment since it now make real estate investment less profitable. You may not be an investor, and be happy to have less investors in your city or condo building. But investors play a very important role. They often create rental stock for the city. Toronto has seen an increase in purpose-built residential rental buildings in recent years, but it’s not nearly enough to supply the city with enough rental properties. Without that supply, the rents go up, and the exact people you are trying to assist have a harder time saving a down payment. Right now with Covid, rents are not going up. This is temporary. When the economy improves, so will rents.
It also is a poor policy for people who find themselves in difficult financial situations like a divorce or a job loss. When people need to sell their house that they have not owned for a very long time during a divorce or job loss, then they will not only be strapped with the cost of divorce or the lack of funds from a job, but they will also owe the government money for their capital gains. In other words, it leaves the young people transitioning from renter to owner in a more vulnerable situation if things go badly on their first purchase.
It also messes with some people’s retirement plan. Not everyone is covered by a pension. RRSPs are certainly not delivering the returns many would like in the past 10 years. So, many have turned to real estate. If much of your pension money is part of the equity you built in your home, then you will now have much less to retire on if the capital gains tax on principal residences goes through.
I feel that government intervention in the real estate market often seems to kill the supply side of things. The Toronto land transfer tax, rent controls and potentially a capital gains tax on principal residences. All discourage investment and transactional real estate, and contribute to a supply problem.
So, what do I think should be done? Well, if there is new tax revenue stream needed, then let’s spread it out with everyone more evenly. Let’s have an increase in the sales tax. The more you spend, the more you pay. You could also increase the income tax. Then there’s the huge corporations that pay next to no taxes that have offshore accounts to manage their tax burden. Maybe they should pay more? I’m not thrilled about having more taxes, but if it has to come, let’s be a little smarter about it, and share the burden.
If you want to address housing in Toronto, then we should look at ways to increase the supply of housing in Toronto. That would be the best way to address the housing problem for younger Torontonians. We could have a much quicker, stream-lined system for development in this city. There have been some small wins in recent years with the ability to build a laneway suite in certain neighbourhoods to increase the supply. We could have a bigger and better plan to create more affordable housing instead of looking at ways to slow down demand.
I know whatever government is in power during the recovery from Covid-19, they are going to be looking for ways to pay off the big bills we accumulated during the pandemic. I’m sure some tough choices will need to be made. Still, let’s not come up with tax revenue streams that will create bigger problems in Toronto’s real estate market.