Non-Arm’s Length Transfer of Property
Special rules typically apply to transactions between related persons. These rules are in place to prevent any potential abuse of the tax system and can have negative implications for you if not accounted for. Transfers of capital property may be subject to adjustments if not completed at fair market value.
Related persons include individuals such as parents, grandparents, children, grandchildren, siblings, spouses, and in-laws. Aunts, uncles, nieces, nephews, and cousins are notably excluded. Corporations can also be a related person if it is a corporation that you control or is controlled by another person related to you.
Generally, a capital gain or loss is calculated by subtracting your adjusted cost base in the property from the proceeds of disposition. For example, you may purchase a cottage for $100,000 and later sell it for $200,000. Therefore, you will need to report a $100,000 capital gain on your income tax return. However, what if you sold this cottage to your child and it had a fair market value of $300,000 at the time of the sale?
In this situation, your proceeds of disposition will be deemed to be the fair market value of $300,000 and you must report a capital gain of $200,000 on your tax return. This is a one-sided adjustment as your child’s cost base in the property will be the purchase price of $200,000. Therefore, on a future sale of the property by your child, $100,000 of the capital gain will be subject to double taxation.
These rules generally do not apply on transfers between spouses. Most transfers between spouses occur at cost by default, resulting in a tax-free rollover. Spouses can choose to elect out of this rollover in which case the above rules apply. In certain situations, it may be beneficial to do so such as if you have capital losses available to offset the accrued gain.
There are many non-tax reasons to consider transfers of property between related persons.
For more information, please contact firstname.lastname@example.org or 1 844-GYTD-CPA