One of the biggest and most common Tax mistakes is when a property is converted from a principal residence to a rental property.
Most people will simply make lending changes to an existing Principal Residence to unlock equity to buy a new Principal Residence and keep the old property as a rental. They tend to maximize the loan available to ensure the debt is highest on the rental as it is tax-deductible.
Makes sense...All good right?
This is not compliant with CRA to allow all the debt on the rental to be tax-deductible. CRA looks at the purpose of the borrowed money. Because the refinanced mortgage is used as a down payment on the new Principal residence the debt is in fact not deductible.
So what is the solution?
To make the debt on the rental fully deductible you technically need to sell the old principal residence obtain lending and buy it back. You can do this by selling the property to a relative who would issue you a promissory note for the purchase. Even as soon as the next day you would obtain lending and purchase the property back from your family member making the rental debt fully tax-deductible.
I agree it seems crazy....sorry ABSOLUTELY NUTS! that one would have to do this, but at the end of the day, you will be able to show CRA that the money borrowed was used to buy a Rental Property, not a Principal residence. The two mortgages you will have will be separated between Rental and Principle and you should be clean and clear with CRA.
It is recommended that you consult with your accountant and lawyer before making any changes.