In a February 11, 2021 Tax Court of Canada case, the deductibility of rental expenses for a condo unit that underwent major repairs was considered.
In 2010, major structural repairs (the exterior repairs) commenced on an entire condo complex. As a result, the taxpayer lost the tenants for his particular unit, and was unable to replace them. As the property was empty, the taxpayer decided to carry out interior repairs within the condo, costing approximately $24,000. The repairs consisted of fixing or replacing items such as fixtures, appliances, walls, and counters.
Taxpayer Wins: Source of Income
CRA argued that since the property was not being rented out, there was not a source of income and the expenses could not be deducted. However, the Court found there was a source of income since there was a continuing intent to earn a profit, demonstrated by several attempts to rent the property during the external structural repair phase. The property was also rented out after the repairs were completed, and the Court observed that the taxpayer operated in a business-like manner.
Taxpayer Wins: Current vs. Capital
The Court then considered whether all of the repairs could be deducted immediately as “current expenses”, or if they must be depreciated over time as “capital expenses”. In ruling that the interior repairs were a current expense, the Court noted the following:
• Betterment and enduring benefit – Although any repairs improve a property, the question is whether the improvement was significant enough to bring into existence a different capital asset than what was there before. No building permits were required, no redesign or change to size, layout, or function occurred, and materials used were “like for like” (no upgrades). No new asset resulted; rather, the property was just kept in rentable condition. The Court also noted that being a “once in a lifetime” expenditure does not mean it is not a repair.
• Typical repairs – If repairs are out of the ordinary, the expenditures are more likely on account of capital. However, these repairs, even though they occurred infrequently, were typical.
• Timing of the repairs – CRA argued that since the repairs were all done at once, they resulted in a new asset. However, the Court noted that the test is only whether the cumulative effect of the repairs was to improve the property past its original condition. The Court found that the timing of the repairs was not a significant factor.
• Cost of repairs compared to value of the property – The cost of the repairs was only 5% of the total fair market value of the property, suggesting that the expenses were current rather than capital.
• Increase in rent – The rent increased from $1,500 to $2,200 after the repairs were complete. The Court opined that the increase in rent was just as likely attributable to exterior repairs as to the interior repairs and that the increase in rent was not a significant factor. It was not surprising that property in good state commands higher rent than one needing repairs.
ACTION ITEM: If considering a major renovation to a rental property, consider whether the repairs require delayed deduction, or can be immediately deducted.