Tax and insurance tips for homeowners who have tenants helping them pay their mortgage

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The high cost of buying a first home today demands we look at affordability solutions beyond tapping into parental wealth or a move to New Brunswick.

In a recent episode of our Stress Test personal finance podcast, we look at multigenerational homes where older parents live with their adult children and grandchildren. Another thought is to own a home with an in-law suite.

In-law suites – they’re not just for aging parents – are an apartment within a home that can help you pay your mortgage by generating rental income. Mind the tax and insurance impact, though. Inattention to either can undo some of the financial benefits of having a renter help pay your mortgage.

The capital gains tax exemption on the sale of a principal residence is one of the best things about home ownership. Can you keep this exemption if you have an in-law suite you rent out?

Aaron Gillespie, a tax partner at KPMG, says the answer is yes if you meet a key condition: The income-earning portion of your home must be ancillary to its role as your family home. This seems clear for people buying a home with an existing in-law suite, but what if you decide to build your own?

Mr. Gillespie said you may have trouble making a case that your home is a family dwelling if you make major structural changes to your home to accommodate your in-law suite. “The Canada Revenue Agency has given examples where you’re making footprint changes to the structure – adding storeys, changing from a regular house into different units,” he said.

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As for rental income, it has to be reported to CRA using a T776 form. Generally, the expenses you can claim against income include mortgage interest, property taxes, insurance, repairs and maintenance, utilities and advertising. These expenses can be claimed only in relation to the rented portion of your home. If your in-law suite is 20 per cent of your home, you can deduct 20 per cent of your property tax bill. You cannot deduct land-transfer tax or mortgage principal.

One final note on tax from Mr. Gillespie: In order to be eligible for the principal residence exemption, no depreciation for tax purposes should be deducted in relation to your home.

If you’re looking for a house to buy, try adding “in-law suite” to the search engine on Realtor.ca. You’ll find search results that include homes with one of these suites already, and properties with “in-law suite potential.” Cities vary a lot in how commonly in-law suites are mentioned in listings. Calgary has 25 mentions, Toronto has 200 and Moncton has 33. Note: When buying a home with an in-law suite, check to make sure it’s legal and meets zoning and safety requirements.

One of the first things to do if you plan to rent out an in-law suite in your home is notify your property insurer. David Browne, president of insurance brokers Martin Merry & Reid Ltd., said a claim could be rejected by your insurance company if you failed to notify it you had tenants in your home. Also, if adding an in-law suite increases the value of your building, don’t forget to increase the policy coverage limit.

The extra cost related to insuring your in-law suite? “Maybe 10 per cent, max,” Mr. Browne said. “It won’t cause a lot of pain.”

He suggests giving yourself a little time to lock down your insurance coverage if you plan to rent an in-law suite. Some insurance companies prefer not to deal with this type of property and may decline your business.

A feature that may be required by your insurer – it will also make life easier for you and your tenant – is to have a separate side entrance for your in-law suite. Mr. Browne said insurers like to see this arrangement as well when assessing the risk of covering a home with a rental unit.

Another suggestion from Mr. Browne is for landlords who have invested in an in-law suite located in a basement, a prime risk area for water damage. Check your policy for the amount of coverage you have for issues related to direct water damage, including sewer backup and overland water.

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