Taxing tenants-in-common

A MoneySense reader recently wrote in concerned about the potential of taxes on the sale of his mother’s property.

Sadly, his mother was diagnosed with cancer in late 2008. After battling with the illness she passed away shortly after Christmas in 2009. But before she died, she wanted to make sure that her four children inherited her small savings, including a mortgage-free detached bungalow. As a result, she consulted an accountant, who suggested that the four children become tenants-in-common with their mother on the deed to the house.

Two months after their mother’s death, the four surviving adult children agreed to sell the family home. Each one had families—and primary residences—of their own and the sale of their mother’s home made financial sense given the strong housing market at that time.

The siblings split the proceeds equally—with 25% of the profit going to each.

But even after the sale of the home, our reader wondered whether the Canada Revenue Agency would consider the sale of the home as a taxable profit?

The short answer is: yes. Each of the siblings would have to pay tax on the sale of inherited home.

It’s my understanding that the major benefit of becoming tenants-in-common on a property deed is that it allows each owner to handle their share of the property as they see fit, without having to obtain agreements or permission from the other owners. That means each could dispose of or keep their share of the property without interfering with the choices or decisions of another.

In other words, the reader could have sold his 25% of the home to another sibling, or to stranger, with impunity.

Also, being tenants-in-common sheltered each sibling from having to pay the capital gains tax on the property in 2009, when you would have inherited the home from your mother’s estate. You were able to defer the taxes owed until you sold the property. But it does not mean you are completely exempt from having to pay taxes on the sale of the home.

The only time you are sheltered from having to pay capital gains tax on the sale of property is when you sell your primary residence.

To help our reader appreciate the taxes owing I’ve provided the following simple illustration:

• Mum bought the home for $100,000.
• You and your siblings inherit the home in 2009, valued at that time at $400,000.
• Your mother’s estate owes tax on the change in disposition of the property. (That’s just a fancy way of saying that anytime the use of a home changes the tax man considers this as a sale-in-kind and taxes are owed.) However, since the home was her primary residence her estate is not required to pay any tax upon the transfer of the home to her beneficiaries. However, since all siblings are tenants-in-common and the inherited home is not a primary residence, there will be a capital gains tax hit when there is another disposition of the property, such as the sale of the home.)
• In early 2009, two months after your mother’s death, you and your siblings sell the property for the current market value of $460,000.
• The profit on the home is the sale price minus your mum’s purchase price, or $300,000. However, you are only responsible for capital gains on the profit between the sale price of the home and the value of the home when it was inherited.
• That means each sibling would earn $100,000 from the sale of your mom’s $400,000 home, as each owns 25% of the home as tenants-in-common.
• However, you would only owe tax on the $60,000 profit (the difference between the fair market value of the home when inherited and the sale price of the home two months later).
• That means each sibling owes tax on $15,000, which is their portion of the gain.

Now, here’s the beauty about capital gains taxes: you are not taxed on each dollar you earn. You are only taxed on half of the profit.

Also, the tax rate you pay is based on your marginal tax rate. So, if you’re in the 30% tax bracket you will only be taxed on half your profit at 30%. Based on the previous examples, that means our reader would only have to pay $4,500 in taxes on a $100,000 gain.

Now, all this being said, it’s best to consult a professional accountant regarding these matters. At a fee of $150 to $300 per hour, an accountant can often provide great insight and potential tax deferral strategies for situations such tenants-in-common (often after only an hour long consultation). Accountants and lawyers will also be able to decipher any nuances or issues involved with specific situations that are not immediately apparent.