December 10, 2024
HST Implications When Selling Short-Term Rental Properties

HST Implications When Selling Short-Term Rental Properties

A safe way to approach a real estate transaction is to assume that Harmonized Sales Tax (“HST”) applies to the transaction, unless there is a specific exemption available under the Excise Tax Act. A common exemption relied on in real estate transactions is the sale of a used “residential complex” by a person (as opposed to the sale of a new home or condominium unit by a builder, for example). That said, it is dangerous to assume that all used residential properties meet the criteria of this exemption.

For example, the sale of real property that was used for short-term rentals, such as those properties hosted on Airbnb or Vrbo, can expose a seller to obligations to collect and remit HST when the property is sold. While this is not a new requirement, a decision released by the Tax Court of Canada earlier this year confirms that the Canada Revenue Agency is paying attention and will enforce it.

Minister Ruled Sale of Airbnb Unit a Taxable Supply in the Course of Commercial Activity

On February 29, 2008, 1351231 Ontario Inc. (the “Appellant”) purchased a used condominium unit in Ottawa (the “Unit”). For the first 9 years of ownership, the Appellant leased out the Unit on long-term leases for periods exceeding 60 days each time. However, upon the expiry of the last long-term lease on February 25, 2017, the Appellant began renting out the Unit on a series of short-term leases on Airbnb. Later that year, the Appellant listed the Unit for sale, and the Appellant eventually sold the Unit to an arm’s-length purchaser. The sale of the Unit closed on April 11, 2018, about 14 months after the switch to short-term leasing.

Neither the Appellant nor the purchaser remitted HST in connection with the purchase and sale of the Unit. When assessing the Appellant for the period covering the date that the Unit was sold, the Minister of National Revenue (the “Minister”) took the position that the Appellant’s short-term leasing constituted a change of use under Section 206 of the Excise Tax Act, which deemed the Unit to have been sold to and acquired by the Appellant as of February 25, 2017. The Minister assessed the Appellant for the HST collectible on the sale of the Unit, leading to an appeal to the Tax Court of Canada. The main question before the Tax Court was whether HST applied to the Appellant’s sale of the Unit.

Is a Short-Term Rental Property a “Residential Complex”?

The Tax Court confirmed that the sale of the Unit fell within the Excise Tax Act’s definition of a “supply”, and since the supply involved the sale of real property, it was a supply made in the course of a “commercial activity” and was, therefore, a taxable supply, unless an exemption was at play.

The Tax Court confirmed that the sale of the Unit would be exempt if the following conditions set out in section 2 of Part I of Schedule V of the Excise Tax Act were satisfied:

  • The sale was of a “residential complex” within the meaning of the Excise Tax Act;
  • The Appellant was not a “builder” within the meaning of the Excise Tax Act; and
  • The Appellant did not claim an input tax credit in respect of the last acquisition by the Appellant or in respect of an improvement to the Unit.

The parties agreed that the Appellant was not a “builder of a residential complex”, as defined in the Excise Tax Act. The parties also agreed that the Appellant did not claim any input tax credits with respect to the purchase of or improvements made to the Unit. Thus, the only issue that needed to be determined by the Tax Court was whether the Unit constituted a “residential complex”.

The Tax Court confirmed that the Unit would meet the definition of a “residential complex” if it constituted a residential unit or a residential condominium unit and the exclusion under paragraph 123(1)(c) of the Excise Tax Act did not apply. The Tax Court summarized the exclusion as follows:

  • The Unit is that part of a building that is a hotel, a motel, an inn, a boarding house, a lodging house, or other similar premises;
  • The building in which the Unit is located is not described in paragraph (c) of the definition; and
  • All or substantially all of the leases, licences, or similar arrangements, under which the Unit was supplied, provided, or were expected to provide, for periods of continuous possession or use of less than 60 days.

The Tax Court concluded that the Unit did not constitute a “residential complex”, reasoning as follows:

  • At the time of the sale, the Unit was being leased out in a similar manner to a hotel, motel, inn, boarding house, or lodging house. In particular, the Appellant was leasing out the Unit on Airbnb for periods as short as one night; the Unit was furnished; the Appellant paid all heating, air conditioning, and electricity costs; and the Appellant provided WiFi internet access as part of the short-term lease.
  • At the time of the sale, all or substantially all of the leases of the Unit were for periods of continuous possession or use less than 60 days. In fact, most of the Airbnb stays were for fewer than 7 nights.

Change-in-Use Rules

The Tax Court of Canada’s decision was based on the use of the Unit at the time of its sale, which the Appellant had tried to resist on the basis that the Unit was used for short-term leasing for less than 10% of the entire period of the Appellant’s ownership.

Subsection 206(2) of the Excise Tax Act is relevant to the Tax Court’s analysis. It provides that when a registrant did not acquire real property for use as a capital property in its commercial activities, but then later begins, at a particular time, to use the property as capital property in its commercial activities, then the registrant is deemed to have received a supply of the property by way of sale, and except where the supply is an exempt supply, to have paid HST.

The Tax Court held that the Appellant was an HST registrant when it acquired the Unit on February 29, 2008, and remained a registrant throughout its period of ownership. It also held that the Appellant first acquired the Unit for an exempt supply, being the use of capital property for long-term leasing, but when the Appellant began listing the Unit for short-term leases on Airbnb on February 25, 2017, that constituted a taxable commercial activity. As such, the Appellant was deemed to have received a supply of the Unit on February 25, 2017, by way of sale.

The Appellant sought to rely on Section 197 of the Excise Tax Act, which limits subsection 206(2) to situations where the change of use is 10% or more. The Appellant’s argument was that it only supplied the Unit by way of taxable short-term leases for 366 days during the 3,694 days that it owned the Unit, meaning it was used for commercial activities only 9.9% of the entire period of ownership. However, the Tax Court held that because the Appellant was deemed to have received a supply of the Unit on February 25, 2017, and the Unit was used from that date until its sale only for commercial activities, the change in use was 100% and Section 197 did not apply.

Unit Not a “Residential Complex”; HST Owed on Sale

Since the sale of the Unit was not (at the time of its sale) a “residential complex” within the meaning of the Excise Tax Act (and therefore not an exempt supply), the sale was a taxable supply, leaving the Appellant owing HST (assessed by the Minister in the amount of $77,079.64).

Get in Touch with One of Duncan, Linton LLP’s Knowledgeable Real Estate Lawyers in Waterloo

This case illustrates the pitfalls of assuming that HST does not apply to what appears at first blush to be an ordinary real estate transaction. Combined with obtaining the advice of an accountant, the advice of a knowledgeable real estate lawyer at the time of negotiating an agreement of purchase and sale is important.

Duncan, Linton LLP’s experienced real estate lawyers are available to provide advice on HST clauses in agreements of purchase and sale. We are also available to close your transaction, and in doing so we will negotiate the appropriate tax certificates and warranties from the opposite party, reducing your exposure to a tax bill potentially costing you tens of thousands of dollars. Our firm is located in Waterloo and proudly serves clients throughout Kitchener, Cambridge, Guelph and across Southwestern Ontario. Contact us online or call us at (519) 886-3340 to speak with one of our real estate lawyers.

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