Deductible Mortgage Interest: When Can You Write It Off?

Rules for Deducting Mortgage Interest on Rental and Investment Properties in Ontario

For many Ontarians, real estate is a cornerstone investment. Whether you own rental properties or are considering leveraging your mortgage for investment purposes, understanding when mortgage interest is tax-deductible can help you maximize tax efficiency. In Canada, mortgage interest on personal residences is not deductible, but it can be written off under specific circumstances when related to income-generating properties. Here’s what you need to know.

1. When Is Mortgage Interest Deductible?

The Canada Revenue Agency (CRA) allows mortgage interest deductions if the borrowed funds are used to generate taxable income. This typically applies to:

• Rental properties – If you have a mortgage on a rental property, the interest portion of the mortgage payments is fully deductible.

• Investment loans – If you use mortgage funds to invest in income-generating assets (such as dividend-paying stocks or business ventures), the interest is deductible.

• Home equity loans for investment purposes – If you borrow against your home’s equity to invest or purchase a rental property, the interest on that portion may be deductible.

2. Mortgage Interest on Rental Properties

For rental property owners in Ontario, mortgage interest paid on a property that generates rental income is fully deductible against that income. To qualify:

• The property must be rented out at fair market value (not to family at a reduced rate).

• The mortgage must be directly tied to the rental property.

• You must maintain detailed records, including mortgage statements and rental agreements.

Example: If you own a rental condo in Toronto with an outstanding mortgage of $500,000 at a 5% interest rate, your annual interest cost is $25,000. You can deduct this amount from your rental income to reduce your taxable income.

3. The “Borrowed Money” Rule

Even if your mortgage is not directly on a rental property, the CRA allows you to deduct interest if the borrowed funds were used for investment purposes. This means:

• If you refinance your home to buy a rental property, the portion of interest on the refinanced loan used for the purchase is deductible.

• If you take out a home equity line of credit (HELOC) and use it for income-generating investments, the interest on that amount is deductible.

  
  

However, to claim this deduction, you must clearly trace the funds to an investment use. Mixing borrowed funds with personal expenses can invalidate deductions.

4. What If You Live in Part of the Rental Property?

If you rent out a portion of your home, such as a basement apartment, only the portion of the mortgage interest related to the rental area is deductible. The percentage is typically based on square footage.

Example: If 40% of your home is rented out and your annual mortgage interest is $10,000, you can deduct 40% ($4,000) as an expense.

However, be mindful that renting out part of your principal residence could impact your eligibility for the Principal Residence Exemption (PRE) when selling the property.

5. Non-Deductible Mortgage Interest

• Mortgage interest on your personal residence is not deductible unless part of it is used for rental or investment purposes.

• If you refinance a mortgage for personal use (e.g., home renovations, vacations), the interest is not deductible.

• If you fail to properly document the investment use of borrowed funds, the CRA may disallow the deduction.

6. Reporting Mortgage Interest Deductions on Your Tax Return

• Deductible mortgage interest is claimed on Form T776 (Statement of Real Estate Rentals) if it’s tied to rental income.

• If the interest is on a loan used for business or investment purposes, report it as an investment expense on your return.

• Keep all mortgage and loan documents, as the CRA may request proof of the funds’ investment use.

Maximizing Your Deductions

Real estate investors in Ontario can significantly reduce taxable income by properly deducting mortgage interest. However, accurate record-keeping and compliance with CRA guidelines are crucial. If you are unsure about your specific situation, consulting a tax professional or accountant can help ensure you optimize your deductions while remaining compliant.

Are you maximizing your tax benefits as a real estate investor? Taking a proactive approach to tax planning can help you save thousands over time.