Practice National Taxation

Hansen v The Queen: The principle residence exemption and house flipping

Tax lawyer and accountant David Rotfleisch looks at a recent Tax Court ruling involving a CRA charge of gross negligence

Author: David J. Rotfleisch

Introduction: A taxpayer reassessed for house-flipping

David Rotfleisch, CPA, CA, JD
According to the Tax Court of Canada, the CRA was incorrect when it imposed a penalty of gross negligence, explains David J. Rotfleisch, CPA, CA, JD, of Rotfleisch & Samulovitch P.C.

Rick Hansen and his spouse purchased and sold several houses from 2007 to 2012 taxation years and claimed principle residence exemption from the disposition of each of them. The Canada Revenue Agency (CRA) reassessed his 2007, 2008, 2009, 2011 and 2012 taxation years and denied his principle residence exemption on the basis that the gains received should be characterized as income from a business or adventure in the nature of trade as opposed to capital gains. At the appeal hearing to the tax court [Hansen v. The Queen], the CRA conceded that Mr. Hansen should be taxed on only half of the net profits from the dispositions of the houses since he co-owned them with his wife and agreed on the amount of certain expenses incurred by Mr. Hansen to sell the properties and the adjusted cost base of each house. The tax court allowed the appeal in part and ruled that:

  1. The Minister could not reassess the taxpayer's 2007, 2008 and 2009 taxations years outside their normal period as there was no misrepresentations in his returns of those years;
  2. Regarding the taxpayer's 2011 and 2012 taxation years, the taxpayer was not entitled to claim principle residence exemption from the disposition of those houses since the gains should be considered as business income instead of capital gain. The reason was that the taxpayer had either a primary or secondary intention to resell the houses at a profit when he purchased them.

There is no misrepresentation when a taxpayer thoughtfully, deliberately and carefully assesses the situation

The Tax Court set out its analysis by first examining whether the CRA was entitled to reassess the 2007, 2008 and 2009 taxation years after the normal reassessment period. Under s.152(4) of the Income Tax Act, the CRA may not make a reassessment after the taxpayer's normal reassessment period unless the taxpayer has made any misrepresentation that is attributable to neglect, carelessness or willful default or has committed fraud in filing the return or in supplying any information under the Income Tax Act. The Tax Court cited the decision of Regina Shoppers Mall Ltd v R in which Justice Addy stated that the CRA cannot reassess after the normal period where a taxpayer thoughtfully, deliberately and carefully assesses the situation and files on what he or she believes bona fide to be the proper method.

The Tax Court then reviewed case law and concluded that just because a taxpayer has adopted a position that contradicts the CRA's position doesn't mean the taxpayer has made a misrepresentation. Since Mr. Hansen lived in each house and personalized them to his own likings, and also sought advice from his accountant who confirmed all the properties sold from 2007 to 2009 qualified for the principle residence exemption, the tax court ruled Mr. Hansen indeed had a bona fide belief in treating the profits as capital gains.

Intention is the most determinative factor to decide whether a transaction is an adventure in the nature of trade

To determine whether the gains from the two houses sold (Cedardown and Kilbirnie) in the 2011 and 2012 taxation years constitute income from a business or an adventure in the nature of trade, the tax court turned to the criteria set out in Happy Valley Farms Ltd. v The Queen. After reviewing case law, the Tax Court concluded that the intention of the taxpayer at the time of acquiring the property is the most determinative factor in deciding whether a transaction is an adventure in the nature of trade. Since the evidence showed that the Hansen had in their mind to resell the Cedardown and Kilbirnie houses for a profit when they purchased them, the tax court ruled that these two properties did not qualify for the principle residence exemption.

s.163(2) Gross Negligence Penalties

The Tax Court went on to analyze the CRA's position to impose penalties on the sales of the two houses in 2011 and 2012. Pursuant to S.163(2) of the Income Tax Act, the Minister must establish the followings on a balance of probability in order to impose the penalty of gross negligence:

  1. Hansen made a false statement or omission in his income tax returns; and
  2. He did so knowingly or under circumstances amounting to gross negligence.

Knowingly/Willful blindness is a subjective test

The Tax Court referred to the decision in Wynter by Justice Rennie and determined the test for wilful blindness is established when a taxpayer subjectively knew that the statements in his or her income tax return were false but chose not to make further inquiries. After examining the evidence, the tax court concluded there was no misrepresentation from Mr. Hansen based on the following grounds:

  1. He believed he was reporting his income correctly from the disposition of the two houses in 2011 and 2012.
  2. He relied on this long-term accountant, Mr. Marsh, a CPA, to ensure the gains were reported correctly.

Gross negligence is an objective test

In comparison to wilful blindness, gross negligence is an objective test and the CRA's tax lawyer must prove on a balance of probabilities that the conduct of a taxpayer represented a marked and substantial departure from the conduct of a reasonable person in the same circumstances. The Tax Court cited several seminal cases on what constitutes gross negligence and concluded that gross negligence must involve a greater neglect than simply a failure to use reasonable care, it must involve a high degree of negligence tantamount to intentional acting, an indifference as to whether the law is complied with or not. Based on the facts of the case, the tax court found that Mr. Hansen spoke openly to his accountant of his intentions when purchasing and selling the houses, and he did not conceal the gains from the disposition of the two houses deliberately. Therefore, it was not correct for the CRA to impose the penalty of gross negligence.

House flipping has complex tax considerations

When you are considering flipping houses, you should be aware of the tax consequences as capital and business income are treated very differently. Although there is no bright line test to differentiate these two types of income, a taxpayer's intention when he or she acquired the property is one of the most determinative factors. 

David J Rotfleisch, CPA, CA, JD, is the founding tax lawyer of Rotfleisch & Samulovitch P.C., a Toronto-based boutique tax law firm. With over 30 years of experience as both a lawyer and chartered professional accountant, he has helped start-up businesses, resident and non-resident business owners and corporations with their tax planning, with will and estate planning, voluntary disclosures and tax dispute resolution including tax litigation. Visit and email David at

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