How Rental Income is Taxed in Canada: A Complete Guide

Most landlords learn the rules of rental taxation the hard way - at audit, on sale, or when an unexpected reassessment lands. The CRA pays a lot of attention to rental properties because the line between "personal" and "business" expenses is often blurred. The rules around what’s deductible, what’s capital, and what triggers HST can quietly cost you tens of thousands if misapplied.

Reporting basics: Form T776

Rental income earned personally goes on Form T776 - Statement of Real Estate Rentals with your T1. Co-owners report based on the percentage of capital they contributed, set at acquisition. You cannot move the split year-to-year for tax convenience.

The current-vs-capital distinction

The single most-audited concept in rental taxation. The CRA wants to ensure you aren’t "expensing" improvements that should be "capitalized" (added to the cost of the building and depreciated over decades).

The "Improvement" Test: If the work improves the property beyond its original condition (e.g., replacing laminate with hardwood), it is likely capital. If it merely restores it to its original state (e.g., replacing a broken laminate board with a new one), it is current.

The full deductible list

• Mortgage Interest: Only the interest portion. The principal repayment is not deductible.
• The Tracing Rule: If you refinance your rental to buy a personal car, the interest on that extra debt is not deductible. Interest deductibility depends on what the borrowed money was *used for*, not what property was used as security.
• Property Taxes & Insurance: Fire, liability, and landlord-specific policies.
• Utilities: If the landlord pays them under the lease.
• Maintenance: Routine repairs, cleaning, and snow removal.
• Closing Costs: Most costs to *buy* the property (Land Transfer Tax, Legal Fees) are NOT deductible; they are added to the Adjusted Cost Base (ACB) of the property to reduce the capital gain later.

Capital Cost Allowance - The "Recapture" Trap

CCA lets you "depreciate" the building (not the land) at a 4% declining balance.

Worked Example: The Recapture Hit Suppose you claim $5,000 in CCA every year for 10 years ($50,000 total) to save tax at your 30% bracket (Saving: $15,000). When you sell the property in 2026, you are in the top 53.53% bracket because of the capital gain.

• That $50,000 is "recaptured" and added to your income.
• Tax on Recapture: $50,000 x 53.53% = $26,765.
• Net Loss: You saved $15,000 but paid back $26,765. This is why most CPAs advise against claiming CCA on appreciating residential rentals.

Short-Term Rentals (Airbnb/VRBO)

If you rent your property on a short-term basis, the CRA may view it as business income rather than rental income if you provide services (laundry, cleaning, breakfast).

• HST Warning: If your gross revenue from short-term rentals exceeds $30,000 in a year, you must register for and collect HST. Unlike residential long-term rentals (which are HST-exempt), short-term rentals are "taxable supplies."

Reporting the Sale: Capital Gain vs. Business Income

Change in Use (Moving In or Out)

If you move into your rental property, or move out of your home and start renting it, there is a deemed disposition. The CRA treats it as if you sold the house and immediately bought it back at Fair Market Value.

• You must report this "sale" on your tax return.
• You can often use a Subsection 45(2) or 45(3) election to defer the tax or preserve your Principal Residence Exemption.

The tax rules for rentals work backwards from the sale. Plan the exit before you buy, document every receipt, and never claim CCA without a long-term math projection.