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Re-finance and tax question

23994

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Hi,

We are doing re-finance with one of the investment properties now and my question is: are there any tax implication with the re-finance?

for example, we bought the house @300k, now we re-finance it as @400k, do we need to file any tax for it?

My understanding is we do Not need to file tax as we did not sell it, but want to get confirmation from you...

Thanks,

Sue
 

23994

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Why there is Nobody reply to my question? I assume this is very common cases for all of us, we do re-finance all the time for our investment property...

Also I want to know how to file the tax when selling the property? e.g. original purchase price is $300k, refinance to $400k, selling at $500k, the capital gain is $200k or $100k?

Appreciated for your reply!

Sue
 

Thomas Beyer

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You pay taxes annually on taxable income or on a gain, if any, on sale.

If you bought for 300,000 and sell for 500,000 you pay taxes on 200,000 plus any depreciation (aka CCA or capital cost allowance) you may have used to reduce taxable income while you held the asset.

Annually you file form T776 as part of your annual tax filing for your regular income. This form T776 - one per property owned - shows your income and all expenses, incl. interest on any debt, and possibly accumulated CCA (the so called recapture amount) which is 4% of the house value excluding land. Usually you pay no income taxes if highly levered and if you use CCA to bring taxable income to 0.

On sale you include 50% of this gain and 100% of the recapture amount in your annual income tax filing for that year, assuming it was held as a long term rental property. As such, rental real estate is tax preferred and tax deferred.

You may get into a problem if you get a mortgage exceeding the initial purchase price plus upgrades as CRA might question what you did with this debt. So in your case if you increase the mortgage to 300,000 from perhaps 240,000 ( or $325,000 to fund say $25,000 worth of upgrades) you should not have a problem deducting the interest on this newer higher debt load.
 
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23994

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Thanks Thomas, you are always helpful and knowledgeable!

Yes, it clarifies my question and confirmed as re-finance, we do Not need to file the tax for capital gain as there is No sell, we will only report the capital gain when the actual sell happens.

For my case, we purchased at $240,000 5 years ago and we refinanced this month and get mortgage approved for $320,000(based on the new value of property of $400,000).

In the future, if the housing price drop, e.g. drop down to $300,000 and we sell it, we may be facing shortage of the proceeds comparing with the mortgage amount, have you ever seen this scenario? Thomas

Appreciated!

Sue
 

Thomas Beyer

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... we purchased at $240,000 5 years ago and we refinanced this month and get mortgage approved for $320,000(based on the new value of property of $400,000).

.. Sue

CRA could question what you did with the $80,000 as they could rightly argue that your entire debt was not used to buy an investment but only $240,000 of it. It is rarely checked and will often not raise any flags when you file the T776 but you are offside as you can only deduct interest on debt used to acquire or enhance an investment property.

Different story if you use this 80,000 to buy another investment ( be it a business, stocks or real estate )
 

23994

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Thanks Thomas, I remember we had discussion regarding the interest deductible and you said no matter it is from the investment property to primary or from primary into investment e.g. HPLC, then the interest is deductible.
 

Thomas Beyer

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Interest is only deductible if used for investment purposes but it for acquisitions of boats, travel or other life style choices.
 

23994

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can I use the re-finance money to pay for my primary property and get interest deducted? Thomas
 

Thomas Beyer

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can I use the re-finance money to pay for my primary property and get interest deducted? Thomas
As I stated above any interest on debt is deductible if used for investment purposes. If you have $320,000 debt on a house acquired for $240,000 and now with a book value of say $200,000 you cannot deduct interest on debt exceeding the book value.

Rarely enforced though but nevertheless good to know what the law is !!
 
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23994

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yes, thanks Thomas, always good to know!

how you define the book value? Thomas
 

Thomas Beyer

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yes, thanks Thomas, always good to know!

how you define the book value? Thomas
Book value is the depreciated value on form T776. The asset you buy consists of land plus house. You can depreciate the house ( but not the land ) by 4% per year. So if your $240,000 house is worth $140,000 for house and $100,000 for lot you can deduct up to 4% of $140,000 or $5600 from taxable income per year. That has the ( positive ) effect of reducing or often eliminating your taxes on rental income while you hold. It has the other ( negative ) effect of reducing your book value and increasing your capital gain when you sell. The book value is the value on your accounting "book". It is usually far lower than real world value.
 

LotharBriones

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This is my situation: I moved from my principal residence and kept it as a rental property (property1). In order to do this I re-financed an income property (property2) to get the down-payment for my new principal residence (property3). Is any interest deductible for property2 loan used for down-payment of property3 for the purpose of converting property1 into a rental?
 

Thomas Beyer

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What did you buy property 2 for ? What is the new mortgage ?

To the degree that the refi $s exceed book value of property 2 the difference is NOT tax deductible.
 

LotharBriones

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That's about right. Speaking with my accountant, he mentioned that the refi money was used to buy a personal residence and that is not tax deductible (indirectly it was used to add income property inventory though). The only money I can deduct interest from is the one I used to getting property1 ready to rent (I upgraded kitchen and bathroom).
 

Thomas Beyer

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Not quite. You can increase debt to the book value of the asset i.e. to buy back "your equity" !
 

KeithnCalgary

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When you get audited CRA is going to demand that you show where the funds from the rental refinance went. If any of the funds are used for personal purposes the interest from those funds are not eligible for tax deduction.
 
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