Whether you’re buying your first home and embarking on your lifetime of asset ownership, upgrading, or investing in a cottage or secondary property, or buying an investment property, understanding Canada’s Principal Residence Exemption (PRE) is essential. This exemption can help you legally avoid capital gains tax when selling your home- but only if the rules are followed. Strictly! 

In this blog, we’ll walk through the principal residence meaning, how to designate a principal residence, and the implications of owning secondary homes, recreational properties, or homes with rental suites- a common scenario in Canada’s opportunistic real estate market.

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What Is a Principal Residence?

Your principal residence is the property you ordinarily inhabit — it’s where you live, receive mail, and maintain ties (like school or health care). It is also reflected in all your identification pieces. It can be a house, condo, cottage, or mobile home — as long as it’s personally used by you or your family.

Only one property per family unit can be designated as a principal residence per year.

What Is the Principal Residence Exemption?

The Principal Residence Exemption (PRE) allows you to avoid paying capital gains tax when you sell your primary home, provided you designate it and meet CRA conditions.

If you own multiple properties, you must strategically choose which one to designate when selling, based on which will save you the most tax.

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Are you searching for your next home? The posts below can assist with a successful purchase:

• How to Buy a House in Ontario
• Must-Have Conditions for an Offer on a House Purchase–Part 1
• Must-Have Conditions for an Offer on a House Purchase–Part 2

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Principal Residence Exemption Formula

To determine how much of a property’s gain is tax-free, the CRA uses this formula:

(Years designated + 1) × Capital Gain ÷ Total years owned

That +1 helps cover the year of sale, assuming it was your principal residence that year.

Designating a Principal Residence

You officially designate your principal residence when you sell the property and file Form T2091 (IND). You’ll need to report:

• Years owned and designated
• Property description
• Capital gain details
• You don’t designate yearly — just when you sell and claim the exemption.

How to Prove Primary Residence in Canada

To support your claim that a home is your principal residence, the CRA may request:

• Utility bills
• Driver’s license/address documents
• Tax returns showing that address
• Enrollment in local schools or healthcare

Do You Pay Capital Gains on Primary Residence?

This is the number one questions for many investors and homeowners. It is important to note that, if the home was your principal residence for all years owned, and you report it properly, no capital gains tax will apply.

HOWEVER, only a partial or no exemption applies if:

• You didn’t live there full-time
• You rented part of it
• You flipped it without establishing personal use
• You owned multiple homes

How Long Do You Have to Live in Your Primary Residence to Avoid Capital Gains in Canada?

There’s no fixed time period, but CRA looks for “ordinarily inhabited” use — meaning more than a brief stay. Factors include whether you actually lived there, how long, and if it was clearly your main home.

What About Secondary Homes and Cottages?

You may own a cottage, condo, or second home that increases in value. If that property isn’t your principal residence when you sell it, you may owe capital gains tax on part or all of the increase in value.

Only one property per year can be designated, so if both your home and cottage go up in value, consult a tax advisor to decide which designation provides the greatest benefit.

Special Case: Renting Out a Portion of Your Home

What if you live in part of your house and rent out a basement apartment, laneway suite, or secondary unit?

Key tax implications:

You can still claim the Principal Residence Exemption — partially. The CRA allows the exemption for the portion of the property used for personal residence.

• The rented portion is not exempt.
• You may owe capital gains on the rented portion of your home when you sell it — unless:
• The rental use was minimal (e.g., a room vs. an entire suite),
• No structural changes were made, and you didn’t claim capital cost allowance (CCA) on the rental suite for tax deductions.

Important Point: Once you claim CCA on a rental suite, that portion of the home may permanently lose eligibility for the PRE, even if you later stop renting it out.

For example: You buy a house and live upstairs while renting out the basement for five years. When you sell:

You may claim PRE for the portion you lived in.

The basement suite may be subject to capital gains tax on its share of the property’s appreciation.

The calculation is often based on square footage or fair market value distribution between the personal and rental spaces. The rental space is generally a small portion of the total and can also be minimized with no agreed use of the outside spaces. 

The bottom line is that renting part of your home won’t disqualify you from the exemption, but it complicates things — especially if you made changes to create an income property or claimed depreciation.

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Want to know more about the exciting world of real estate investing? The posts below will give you an inside point of view:

• Benefits of Owning Revenue Properties
• How Real Estate Investors Raise Their Capital
• How Can Real Estate Investing Help Grow Your Wealth Long-Term?

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Recent Changes to the Principal Residence Exemption

As of 2016, you must report all sales of principal residences on your tax return. Non-compliance can lead to loss of the exemption, penalties, and audits. CRA is diligently scrutinizing house flipping, short-term rental conversions,  and misuse of the PRE. 

Here is one last but very important point in this summary:

If you are going to change the use of your property within your ownership- get us out to evaluate the property. At that point, the change may trigger a different tax treatment moving forward and we need to capture any exempted value prior to moving into a non-exempt asset appreciation period.  

Final Thoughts for Buyers and Sellers

Whether you’re buying a forever home, investing in a cottage, or house-hacking with a basement suite, here’s what you need to remember:

• Only one property per family unit can be designated per year.
• Keep records — especially if you own more than one property.
• Rental portions of a home may be taxable.
• Designate wisely at the time of sale.

Working with a tax advisor and experienced real estate professional will go a long way toward minimizing any surprises when it comes to the Principal Residence Exemption. 

Do you have questions about buying, selling, or investing in real estate? Our Barrie real estate agents are happy to assist. Reach out to us today at 705.305.4174 or email hello@weeksgroup.ca.