Selling Your Home: Capital Gains, PRE, and Tax Rules

Principal Residence Exemption: how it works

When you sell a property that qualifies as your principal residence, the PRE shelters the capital gain from tax. A property qualifies as your principal residence for a year if it is a housing unit you ordinarily inhabited during that year (or your spouse, former spouse, or dependent child inhabited).

The exemption formula

Exempt portion = (Number of years designated as principal residence + 1) ÷ Total years owned × Capital gain

If you owned the home for 10 years and designated it as your principal residence for all 10 years, the formula gives: (10 + 1) / 10 = 110% — meaning 100% of the gain is exempt (the exemption cannot exceed 100%).

If you owned it for 10 years but only designated 8 years as principal residence (perhaps because you owned a cottage during that period and designated the cottage for 2 years), the exempt fraction is (8 + 1) / 10 = 90%, and 10% of the gain would be taxable.

One principal residence per family unit per year

A family unit — you, your spouse or common-law partner, and any unmarried minor children — can only designate one property per year. This limits the exemption to one home at a time, which matters when you own multiple properties (a home and a cottage).

The +1 rule

The "+1" in the numerator of the PRE formula serves a specific purpose: it allows you to shelter an additional year when you bought a new home while you still owned the old one.

Suppose you sold your old home in 2026 and bought your new home in 2025. For 2025, both properties were owned simultaneously — you can only designate one of them as your principal residence. The +1 rule allows you to fully shelter both gains, because the year of overlap is absorbed by the +1. You designate the old home as principal residence for all years including 2025, and the +1 covers the overlap year for the new home.

This is why, in most cases of sequential home ownership where you overlap by one year, both homes can be fully sheltered. Problems arise if the overlap is longer than one year.

CRA reporting requirement — even if fully exempt

Since 2016, you must report the sale of any property for which you are claiming the PRE. The requirement applies even if the entire gain is exempt and you owe zero tax.

What to file

• Schedule 3 (Capital Gains) of your T1 return: report the proceeds, adjusted cost base, and outlays (legal fees, agent commission) in the year of sale
• T2091IND (Designation of a Property as a Principal Residence by an Individual): complete to formally designate the years the property was your principal residence and claim the exemption

Consequences of not reporting

If CRA later discovers an unreported sale (through property transfer tax records, land registry data, or other information sharing), you face a $100 penalty per month, to a maximum of $8,000, plus potential loss of the exemption itself. CRA has been more aggressive in auditing principal residence claims since 2016.

The residential property flipping rule

Since January 1, 2023, if you sell a housing property (a residential property or the right to acquire one) within 12 months of acquiring it, the gain is automatically treated as fully taxable business income — not a capital gain. The PRE does not apply to business income.

Why it matters

Capital gains are only 50% included in income (after the inclusion rate change — see below). Business income is 100% included. On a $200,000 gain, the difference is $100,000 of additional taxable income.

Exceptions

CRA has outlined specific life events that exempt a sale from the flipping rule even within 12 months:

• Death of the taxpayer or a related person
• A household member joining or leaving the home (marriage, common-law partnership, birth/adoption, breakdown of relationship)
• Threat to personal safety (domestic violence)
• Serious illness or disability of the taxpayer or a related person
• Employment change requiring relocation 40+ km from the former home
• Involuntary termination of employment
• Insolvency
• Involuntary destruction of the property

The exception must be documented. Keep all supporting records.

Partial use for business or rental purposes

If part of your home was used for business or rented out, the proportionate gain may not be covered by the PRE.

Change-in-use rules

If you convert part of your personal residence to a rental or business use (or vice versa), there is a deemed disposition at fair market value at the time of the change. CRA considers this a partial disposition and acquisition, potentially triggering a capital gain or loss.

However, an election is available under Section 45(2) of the Income Tax Act that allows you to continue designating the property as your principal residence for up to 4 years after converting it to rental use (or indefinitely if you do not deduct CCA). This election must be made on your return for the year of the change.

Renting out a portion (not the whole home)

Renting a basement suite or a room does not necessarily trigger a partial change-in-use if the nature of the home remains primarily residential. However, if the layout and use of the property has been substantially changed (such as a purpose-built income property), CRA may treat a portion of the gain as not eligible for the PRE. Do not claim CCA (depreciation) on the property if you want to preserve the PRE on the entire home.

Capital gains inclusion rate

For any portion of your home sale gain that is not sheltered by the PRE, the taxable portion is calculated as follows:

• Gains up to $250,000 per year (for individuals): 50% inclusion rate — only half the gain is added to income
• Gains above $250,000 (for individuals): 66.67% inclusion rate applies to the excess portion

The included amount is taxed at your marginal rate combined with provincial rates. For most homeowners with a fully exempt principal residence, this section does not apply — but it becomes relevant for cottages, investment properties, or partially exempt homes.

Attribution and related-party sales

Selling or transferring your home to a spouse or common-law partner, or to a minor child, at below fair market value triggers income attribution rules. CRA treats the proceeds as if you sold at fair market value — you report the deemed capital gain even though you received less.

Similarly, gifting property to a spouse (without a joint election for a spousal rollover) is treated as a disposition at FMV. Any resulting capital gain is taxed in the transferor's hands at the time of transfer, not deferred.

The spousal rollover (Section 73(1)) allows transfers of property between spouses or common-law partners on a tax-deferred basis — the property transfers at the adjusted cost base, deferring the gain until eventual disposition. Both spouses must be Canadian residents and the transfer must be between living spouses.

US citizens and non-residents selling Canadian property

Non-residents of Canada who sell Canadian real property face different rules:

• The buyer is required to withhold 25% of the purchase price and remit it to CRA (or a certified smaller amount if a certificate of compliance is obtained)
• Form T2062 (Request by a Non-Resident of Canada for a Certificate of Compliance Related to the Disposition of Taxable Canadian Property) must be filed within 10 days of closing
• A Canadian non-resident tax return must be filed to report the gain and recover any over-withheld amounts

US citizens living in Canada who sell their principal residence may receive the full Canadian PRE but still owe US tax on the same gain. Canada-US tax treaty provisions provide some relief, but the interaction of the two systems requires advice from a cross-border tax specialist.

Frequently asked questions