One of the most famous real estate investment strategies out there is the “Buy and Hold” strategy. That means buying a real estate property then holding on to it until the property increases in value.
Once it does, you sell it and profit on the value increase. But did you know that your income from that strategy is taxable? In this article, I’ll share with you what capital gains are and how to calculate capital gains on property sale.
What is Capital Gains?
According to Investopedia, Capital Gains is the rise of the value of an asset that gives it a higher worth than the purchase price. This concept is applicable to both real estate and paper assets.
However, there’s a concept called “realized capital gains” and “unrealized capital gains.” Realized capital gains happen once you sell your real estate asset. On the other hand, unrealized capital gains only appear on paper.
This means as an investor, you only make a profit from capital gains once you sell your property. But you have to know the tax laws governing your area if you want to maximize the profits you make.
Do You Pay Capital Gains Tax in Real Estate Sales?
The short answer to this is yes. Capital gains is considered as income. Therefore, it is subject to tax. However, the tax percentage is different per area. In the case of Canada, only 50% of the capital gains profit is taxable. Let’s discuss this more on…
How to Calculate Capital Gains Tax on Property Sales
For example, 3 years ago you bought a property worth $100,000. After holding it for 3 years, the property’s value went up to $250,000. The total capital gains is:
$250,000 – $100,000 = $150,000 (total capital gains)
Since your property is in Canada, 50% of the total capital gains profit is subject to tax. Therefore…
$150,000 x 50% = $75,000
The total taxable amount for this property is $75,000. Now, if the property is under your personal name, the $75,000 is added to your overall income. It is then subject to the marginal tax rate and under the respective tax bracket depending on where you are living.
To make the computation of tax easier for you, you can use this Simple Tax Calculator I found on the web. You can also call your accountant to help you compute for how much tax you need to pay.
Are There Cases Where Capital Gains Tax are Exempted?
If you’ve been living in that property and you suddenly decided to put it up for sale, you might be exempted from paying capital gains.
However, if you’ve been living there for less than a year and decide to sell it, you may be taxed on your capital gain income. The basic rule of thumb is that you need to live in the home for at least one year.
To make it simpler, it all boils down to your intent in selling. If the government sees that you’re doing this as a business, you could be taxed. But if you moved in, had a family, and decided to sell the property because the space isn’t enough, you may be exempted.
Since I don’t know your specific situation, I would suggest you seek an attorney before making a decision. This is a safer way to avoid penalties in the future.
If you want more in-depth information on this, here’s a free resource you can read this article on How To Calculate Tax Payable On The Sale Of Your Rental Properties. Also, here’s an in-depth guide on capital gains from Canada Revenue Agency.