What is the capital gains inclusion rate for 2026?
The inclusion rate is the fraction of a capital gain that gets added to your taxable income; for 2026 it remains 50%, unchanged for decades. This was a genuinely live question through 2024 and early 2025: Budget 2024 proposed raising the rate to two-thirds on gains above $250,000 for individuals (and on all gains for corporations and trusts), effective from 25 June 2024. The effective date was then deferred to 1 January 2026, and on 21 March 2025 the federal government formally cancelled the increase entirely. It was never enacted into law, so anyone selling a cottage in 2026 calculates their taxable gain at the same 50% rate that has always applied, with no $250,000 threshold and no two-tier structure.
How does the principal residence exemption work for a cottage?
A cottage, like any second property, does not automatically qualify for the principal residence exemption (PRE). It only becomes exempt, for a given year, if the owner designates that specific property as their principal residence for that year, rather than their main house or any other property they own. A taxpayer and their spouse or common-law partner together can designate only one property as their principal residence per calendar year, with narrow exceptions. In practice, this means a family that owns both a house and a cottage has to choose, year by year, which one the exemption protects; it cannot shelter the full gain on both properties for the same years.
The "plus-one" rule adds one extra year to the numerator when calculating the exempt fraction. This exists so that someone who sells one home and buys another within the same calendar year does not lose a year of exemption to the overlap. It does not apply to a taxpayer who was a non-resident of Canada throughout the year the property was acquired, a rule change effective from 2 October 2016.
How is the exempt portion of a gain calculated?
The core formula, applied whenever a property was the principal residence for only some of the years it was owned:
exempt fraction = (years designated + 1) / years owned
The exempt fraction is applied to the total gain, and the 50% inclusion rate is then applied only to the remaining, non-exempt portion. For example (illustrative only, not a real transaction): a cottage owned for 20 years, designated as the principal residence for 8 of those years, has an exempt fraction of 9/20, or 45%, leaving 55% of the gain taxable, of which half is included in income.
Every sale of a property that was, or could have been, a principal residence for any part of the ownership period must be reported on Schedule 3 and Form T2091(IND) of the tax return, even when the exemption covers the entire gain. This reporting requirement has applied since 2016 and is separate from whether tax is actually owed.
What counts toward the adjusted cost base?
The taxable gain is calculated as proceeds of disposition, minus adjusted cost base (ACB), minus selling costs, with the 50% inclusion rate applied to the remainder. The ACB starts with the original purchase price plus the closing costs paid to acquire it (legal fees, land transfer tax, survey costs), and can be increased over time by capital improvements: additions, a new roof, a rebuilt dock or septic system, and similar work that adds long-term value rather than simply maintaining the property as it was. Routine repairs and maintenance, such as repainting, minor fixes or replacing something on a like-for-like basis, do not increase the ACB, since they are current expenses rather than capital improvements. Keeping receipts and a running record of which costs were capital improvements, and in which year, is the single most useful thing an owner can do to reduce a future capital gain, since the CRA can ask for support for the ACB claimed at the time of sale, potentially many years after the work was done.
What is the 365-day anti-flipping rule?
For any residential property, including a cottage, sold within 365 days of acquiring it, the gain is deemed to be fully taxable business income rather than a capital gain. That means no 50% inclusion rate and no principal residence exemption apply at all; the entire gain is taxed as ordinary income. This rule, in force for dispositions on or after 1 January 2023, carries specific carve-outs for genuine life events, including death, disability, a job relocation of at least 40 kilometres, and separation or divorce. Properties held longer than 365 days are not automatically safe from business-income treatment; the CRA's ordinary facts-and-circumstances test, looking at intention and frequency of past transactions, still applies beyond the 365-day floor, which sets a minimum rather than a full safe harbour.
What happens to a cottage on death or a gift to children?
Transferring a cottage to children, whether as an outright gift during your lifetime or through an estate on death, is generally treated by the CRA as a deemed disposition at fair market value on the transfer date, not at the original purchase price and not at $0, even though no money changes hands. This deemed sale can trigger a real capital gains liability for the person transferring the property (or their estate, in the case of death), calculated exactly as an arm's-length sale would be, including any available principal residence exemption for the years it qualified. The children's adjusted cost base for the property they receive is generally the fair market value used in that deemed disposition, which matters when they eventually sell.
Because deemed-disposition rules interact with the number of years the property was designated as a principal residence, the specific relief available to a surviving spouse, and provincial land transfer tax that may also apply on a transfer to children, this is one of the areas where the general mechanism is well established but the outcome in a specific family's situation depends heavily on individual facts. Confirm the current treatment directly with the CRA or a tax professional before acting, particularly around any spousal rollover and the exact timing of a deemed disposition on death.
What if the cottage's use changes over time?
Converting a cottage between personal use and income-producing use, such as turning it into a rental or converting a rental back to personal use, triggers a deemed disposition and reacquisition at fair market value on the date of the change, which can create a taxable gain even though the property was not actually sold. An election under subsection 45(2) of the Income Tax Act can defer this deemed disposition when moving from personal to rental use, and can preserve limited access to the principal residence exemption for up to four additional years after the change, provided no capital cost allowance is claimed on the property in the meantime. A parallel election under subsection 45(3) applies when moving from rental back to personal use. These elections have conditions attached and are worth discussing with a tax professional before a change of use takes effect, not after.
Work out your own numbers
- Principal residence exemption calculatorEstimate the exempt fraction of a gain based on years designated and years owned.
- Family property cost splitIf the cottage is jointly owned, work out each owner's share of a future gain.
- Cottage running costs calculatorTrack the costs and improvements that can affect your adjusted cost base.
Common questions
Do I have to report a cottage sale even if the gain is fully exempt?
Yes. Every disposition of a property that was, or could have been, designated as a principal residence must be reported on Schedule 3 and Form T2091(IND), even when the exemption fully offsets any tax owing. This has been a requirement since 2016.
Can I split the principal residence designation between my house and cottage across different years?
Yes, in the sense that you can choose, year by year, which property is designated, but not simultaneously. A household can designate only one property per calendar year, so if the cottage is designated for certain years, the house is not sheltered for those same years, and vice versa. The choice is usually made at the time of a sale, looking back over the full ownership period to decide which allocation minimizes tax.
Does the 365-day anti-flipping rule apply to a cottage owned for generations?
No. The rule only applies to a sale within 365 days of that seller's own acquisition of the property. A cottage held for decades, or inherited years earlier, is far outside that window and is assessed instead under the ordinary capital gains and principal residence exemption rules described above.
Sources
- Wolters Kluwer, Changes to the capital gains inclusion rate, checked 15 September 2026.
- Scotia Wealth Management, Cancellation of the proposed capital gains inclusion rate increase, checked 15 September 2026.
- CRA, Income Tax Folio S1-F3-C2, Principal Residence, checked 15 September 2026.
- CRA, Deemed disposition of property (someone died), checked 15 September 2026.
- Mackisen, Residential property flipping rule (Budget 2022, in force 1 January 2023), checked 15 September 2026.
Last reviewed 15 September 2026. Next review March 2027. Written by the OwnersLog team from the official sources listed above. No professional reviewer is named on this page yet.
This guide is general information about how the rules work, not financial, tax, legal or mortgage advice, and it cannot account for your circumstances. Confirm anything that matters with a qualified professional. See the full disclaimer.