Where a taxpayer realizes a capital gain on the involuntary disposition of a capital property or on the voluntary disposition of a former business property, the taxpayer may elect, in the year the property is replaced, to defer that gain. The gain may only be deferred to the extent that the taxpayer reinvests the proceeds of disposition in a replacement property within a certain time frame.
These exchanges of property rules parallel the exchange of property rules for the disposition of depreciable property (see subsection 13(4) of the Act and the Chapter 6 discussion on voluntary property and involuntary property). Under subsection 44(5), to qualify for the deferral, a replacement property must:
- Be put to the same or similar use, by the taxpayer or a related person, as the former property; and
- Be used by the taxpayer or a related person in the same business or a similar business.
Essentially, the taxpayer may elect to reduce the adjusted cost base of the replacement property to the extent of the capital gain, or part thereof, reinvested in the replacement property. Any excess of the proceeds of disposition over the replacement cost remains a capital gain. On the disposition of land and a building, the taxpayer may elect, in the year of replacement (subsection 44(6)), to reallocate the excess proceeds of disposition between the components so that less capital gain or recapture will be reported.