Converting your principal residence into a rental triggers what the Income Tax Act calls a change of use. The CRA treats this as a deemed disposition, meaning you are considered to have sold the property at its fair market value (FMV) and bought it back the same day, even though no actual sale happens. That deemed sale can create a capital gain out of thin air, which is the surprise most homeowners do not see coming until their accountant mentions it.
A tool called the 45(2) election, named for the subsection of the Income Tax Act that creates it, can defer that gain and let you keep treating the property as your principal residence for tax purposes for a period after you start renting it. This post is not tax advice. Pair everything below with a CPA who can confirm the current CRA rules for your exact situation.
Pekoe Mortgages is FSRA licensed in Ontario (Licence #13321) and RECA licensed in Alberta. We handle the financing side of a rent-versus-sell decision, and we work alongside your accountant rather than in place of one.
What Happens Tax-Wise When You Start Renting Out Your Home?
Moving your home from personal use to a rental triggers a deemed disposition, which can create a taxable capital gain even though you have not sold anything. The CRA measures the gain from your original cost up to the property’s FMV on the day the use changes, not from the day you eventually sell.
Here is an illustrative example, not a real client file. Say you bought your home years ago for $400,000 and lived in it the entire time. On the day you decide to rent it out, an appraisal puts the FMV at $600,000.
The deemed disposition creates a $200,000 gain on paper. Because the home was your principal residence for every year you owned it, the principal residence exemption (PRE) would generally shelter that entire gain, so no tax is owing at the moment of conversion in this illustration. The real exposure comes later, from any growth that happens while the property is a rental.
The deemed disposition on change of use is the mechanism that starts the tax clock on a home you convert to a rental.
What Is the 45(2) Election, and What Does It Actually Do?
The 45(2) election lets you tell the CRA that the deemed disposition on change of use should not apply, so no immediate gain is triggered and you can continue designating the property as your principal residence for a period after you start renting it. You typically make the election by attaching a signed letter to your tax return for the year the change of use occurs, describing the property and stating that you want subsection 45(2) to apply.
The election is commonly described as extending your principal residence designation for several years even while the property earns rental income, but the exact length of that window, and any conditions attached to it, can change. Confirm the current rule with a CPA or directly with the CRA before you rely on a specific number of years.
| What It Covers | How It Generally Works (confirm specifics with a CPA) |
|---|---|
| Triggering event | Changing your home from personal use to a rental (or the reverse) is normally a deemed sale and repurchase at FMV. |
| Making the election | A letter is generally filed with your return for the year of the change, describing the property and requesting subsection 45(2) treatment. Confirm the current filing method and deadline before you rely on this. |
| Continuing the PRE | The election can let you keep the property designated as your principal residence for tax purposes for a period after you start renting it. Confirm the current length of that window with a CPA. |
| Reporting rental income | You still report the net rental income you earn each year. The election defers the capital gain, it does not exempt the rental income itself. |
| Reversing the election | If you sell or move back in, a similar filing is generally used to end the election. Confirm the current process with a CPA. |
The 45(2) election defers the change-of-use gain and can extend your principal residence designation for a period after the property becomes a rental, subject to conditions that should be confirmed with a CPA.
The CCA Trap: Why Claiming Depreciation Can Cancel Your Election
Claiming capital cost allowance (CCA), the tax term for depreciation, on a property covered by a 45(2) election generally cancels that election. The CRA’s position is that once you deduct CCA, you are treating the property as a straightforward income-producing asset rather than a home you still intend to treat as your principal residence.
This catches people who file the election correctly and then, a year or two later, let an accountant or a tax software default claim CCA to reduce the year’s rental income. The smaller deduction is rarely worth losing the deferral on a much larger capital gain. Report your rental income and expenses normally, but flag to whoever prepares your return that CCA should not be claimed if you want to preserve the election.
Skipping the CCA deduction on a rental covered by a 45(2) election is the trade-off that keeps the election in force.
How the Financing Side Changes Once Your Home Becomes a Rental
Turning your home into a rental changes how lenders look at it, separate from anything the CRA does. Your existing mortgage terms may require you to notify your lender of the change in occupancy, and your default insurer’s owner-occupancy conditions can also apply. Check your commitment and speak with your broker before you list the property for rent.
If you are buying a new principal residence and keeping the old one as a rental, lenders generally qualify you using a portion of the rental income alongside your other income and debts, but the exact treatment, the percentage of rent they count, and the paperwork they want, varies by lender. This is also where the deductibility of any new borrowing matters. If you refinance the rental property itself to pull out equity, the interest treatment follows the same use-of-funds logic covered in our guide on making your mortgage tax-deductible in Canada, and the tracing discipline described in our cash damming post applies just as much to a rental refinance.
If instead you break your current mortgage to access equity for a different investment, our post on whether mortgage interest is deductible on a rental property walks through the penalty-versus-deduction math. Have a question? Chat with our team or AI assistant directly on pekoe.ca.
Lenders and insurers treat a change to rental use as a separate question from the CRA’s tax rules, and both need attention before you commit to renting.
Should You Rent It Out or Sell? A Side-by-Side Look
Renting keeps a growing asset and creates ongoing income, while selling locks in the current tax-sheltered gain and hands you cash now. Neither answer is right for everyone, and the choice usually comes down to how confident you are that you will hold long enough to manage a tenant through a full market cycle.
| Consideration | Renting It Out | Selling It |
|---|---|---|
| Tax on growth to date | Generally sheltered by the principal residence exemption if it was your home the whole time you owned it, subject to the deemed disposition rule above. | Generally sheltered the same way, and the tax result is settled the day the sale closes. |
| Tax on future growth | Becomes taxable once you sell, unless a 45(2) election extends your exemption window. Confirm the current window with a CPA. | Not applicable, since you no longer own the asset. |
| Ongoing income | Net rental income is taxable each year you hold the property. | None, aside from what you do with the sale proceeds. |
| Financing | Your mortgage or refinance on the property is typically qualified as a rental, and any new home purchase is qualified alongside it. | Frees up your borrowing capacity and credit profile for a fresh purchase. |
| Best suited to | Owners who want a long-term rental and are prepared to manage a tenant and a second property. | Owners who want a clean, certain result and do not want a second property to manage. |
Renting keeps the asset and its tax deferral tools in play, while selling trades that upside for a settled, certain outcome today.
Common Mistakes Homeowners Make With the Change-of-Use Rule
Most problems come from timing and paperwork, not from a bad decision to rent in the first place. Four mistakes show up again and again.
Not filing the election at all. Some owners assume the CRA will simply “know” the property was a principal residence and skip the letter entirely. Without the filing, the deemed disposition rule applies as written, with no deferral.
Claiming CCA without realising the effect. A tax preparer working from a template can claim depreciation on a rental by default. Flag your 45(2) election clearly so it is not undone by a routine deduction.
Not documenting the FMV at the change-of-use date. An appraisal or a comparable market analysis from the month you started renting is the evidence you want on file. Without it, you are negotiating your cost base with the CRA years later from memory.
Assuming the lender does not need to know. Occupancy type is part of your mortgage agreement, and insured mortgages carry their own conditions. Tell your broker before you rent out the property, not after a claim or a renewal surfaces the change.
Financing the Property Once It Is a Rental
The 45(2) election is a tax decision. Once the property is actually earning rent, the financing questions change too, because lenders treat a rental differently from the home you live in.
Two things shift. Only a portion of the expected market rent counts toward qualifying income, and a refinance on a non-owner-occupied property is capped lower than on a principal residence. Our Ontario rental property mortgage and Alberta rental property mortgage pages set out how each province handles it, and the rental debt service calculator shows what the rent does to your ratios.
The citable fact: a 45(2) election changes the tax treatment of a property, not how a lender qualifies you on it.
Frequently Asked Questions
Does renting out my principal residence always trigger a tax bill right away?
Not necessarily. The change of use creates a deemed disposition, but if the home was your principal residence for every year you owned it, the principal residence exemption generally shelters the gain up to that point. The exposure is usually on growth that happens after you start renting, unless you defer it with a 45(2) election.
What is the 45(2) election and who typically uses it?
It is an election under the Income Tax Act that lets you avoid the immediate deemed disposition when a property changes from personal use to a rental, and continue designating it as your principal residence for a period afterward. Homeowners who want to rent out a home instead of selling it, without an immediate capital gains bill, are the ones who typically use it. Confirm the current conditions with a CPA before relying on it.
Can I still deduct rental expenses if I make the 45(2) election?
Yes, you report your net rental income and expenses the same way any landlord does. The one restriction is capital cost allowance, since claiming it generally cancels the election.
What happens if I move back into the property later?
You can generally file a similar election or notification to end the 45(2) treatment when you resume personal use, and the property’s tax history is assessed from there. The exact filing and any conditions attached to moving back in should be confirmed with a CPA, since the rules depend on your specific timeline.
Should I talk to a broker or a CPA first about renting instead of selling?
Both, and in parallel rather than one after the other. A broker can tell you how the property qualifies as a rental, what a new mortgage looks like, and whether your current lender needs to be notified, while a CPA confirms the tax filing, the election, and the numbers behind the decision.
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Renting out a home you already own means two separate conversations, one with a mortgage broker about the financing and one with a CPA about the election and the numbers.
Talk to Pekoe Mortgages about the financing side of turning your home into a rental, and bring a CPA into the tax side before you file anything.
