Assignment of a Right to a Property and the Tax Implications That Follow Part 1

Assignment

With the strength of the preconstruction market over the past decade, many have chosen to reap the benefits by purchasing property on plan from a builder and subsequently selling the rights to the property, with a markup, to another buyer before closing. Selling a construction property prior to closing is formally known as an assignment of a property. Not all assignments are done strictly for profit; there are situations that may arise requiring a purchaser to assign a property originally intended to be a principal residence. Most builders allow assignments to be done at little to no charge. However, it’s important for anybody considering assigning a property to be aware of the nuances involved. In particular, what are the potential HST implications on the sale of the right? How should any potential markup earned on an assignment be reported; as a capital gain or business income? The latter will be discussed in the second of this two-part blog; here I will first discuss HST considerations.

To answer the HST question, it will depend on the determination of the primary purpose of the property from the point-of-view of the CRA. Namely, was the property purchased with the intent of reselling at a markup, or was it originally purchased as a primary residence only to have extenuating circumstances require the assignment? If the intended purpose of the property is concluded to have been to resell for profit, the CRA could define the assignor of said property as a “builder” for HST purposes, even if the assignor is simply a buyer and not actively involved in the construction process. Furthermore, if the assignor is ultimately deemed a builder by the CRA, they are subsequently required to charge and remit HST on the markup earned from the assignment. The CRA will take various factors into consideration in ascertaining the intended purpose of a property and whether the title of “builder” should be transferred to an assignor. Some of the primary factors considered by the CRA can be found in the GST info sheet GI-120 here.

They include, but aren’t limited to:

  • The person offers to sell his/her interest in the property or explores other avenues to sell the property before or while the house is under construction.
  • The financing of the property indicates that it’s for short-term usage. The mortgage is short-term and could be paid off without penalties rather than a long-term or closed mortgage.
  • The financing of the property is unreasonable for the person given their income level, making it appear that the person is relying on the increased value of the property to resell the house.
  • The person’s stated interest is to occupy the property as their primary residence, but their personal circumstances make such a claim appear dubious.
  • It appears that, based on the person’s pattern of activity, their occupancy of the property does not have the characteristics of a permanent one.

There are other considerations as described in GST/HST Memorandum 19.2 that can be used to determine if an assignor may be considered a builder, but those summarized above are most commonly used to identify a builder. Allow me to illuminate the point with a couple of examples.

Example 1

Bob and Natasha own a 3-bedroom house where they live with their two children. In May 2010, they entered into a purchase and sale agreement with a builder to buy a single bedroom condo. The purchase price was $310,000 with a closing date in November 2011. In June 2011, while the property was still under construction, they assigned the right to their property for $350,000.

Point four listed above may be used to determine that Bob and Natasha be deemed builders in this case and be forced to charge HST on any markup earned from their assignment of the one bedroom condo. Even if they have no prior history of buying and selling real estate, it would not have made sense for a family of four to leave a 3-bedroom dwelling in favour of a one bedroom condo. Based on the available information, it appears likely that their primary purpose in acquiring and selling the property before closing was to sell the condo unit at a profit.

Example 2Family Home

Nelson and Eva rent a 3-bedroom house where they live with their two children in Toronto. After learning that Eva is pregnant with their third child, they felt their rented unit was too small to accommodate their burgeoning family. They enter into a purchase and sale agreement with a builder in February of 2012 to buy a new 4-bedroom house, set to be completed in May of 2013 for $450,000.
In January 2013, Nelson was promoted with a substantial raise and his new position required him to move to Ottawa. As a result, the family assigned the 4-bedroom property for $500,000. In Ottawa they purchased a 4-bedroom property to live in.

In this instance, it’s clear that the assignment of the right to the property was a result of work relocation and that the primary purpose was not to resell interest of the house for profit. Nelson and Eva would likely not be considered builders in this case and thus would not be required to charge HST.

In the event that a buyer was deemed a builder by the CRA, what would this entail? Using the numbers in example 1, the property was purchased for $310,000 and assigned for $350,000. The assignor would have to assign the property for the extra $40,000 in gain plus 13% HST ($5,200). Assignors often fail to charge additional HST, thus rendering the $40,000 profit as being inclusive of HST, requiring the lawyer to remit an HST amount of $4,600 to the CRA, cutting the take-home profit to $35,400.

From the point of view of the assignee, they would then be eligible to benefit from the HST rebate on a newly constructed property on the extra $4,600 remitted. Generally, the HST rebate is applied for by the builder on behalf of the buyer and factored into the final price. Thus, the original $310,000 price paid by the assignor when the price was first agreed upon with the builder had already factored in the rebate due to be received after closing. Here’s the breakdown of the original $310,000 purchase price:

The breakdown of a $310,000 purchase price in Ontario is as follows:

$294,677 Actual price
+$14,734 GST (5%)
+$23,574 PT (8%)
-$5,304 (GST rebate: 36% of GST)
-$17,681 (PT rebate: 75% of PT)

Had the builder not factored in the rebate, the original purchase price would have been $22,985 higher. Since the CRA only allows one HST claimant on the property, it is in the best interest of the assignee to pay the total price of the property, inclusive of all tax, and then apply for the full rebate themselves. Thus, the purchase price for the assignee would total $372,985 ($350,000+$22,985 original rebate). Not only would the assignee receive the $22,985 original rebate back, they would also get an additional rebate of $2,761 due from the extra $4,600 HST paid on the $40,000 markup. The breakdown of this additional rebate is as follows:

The GST of $1,770 yields a rebate amount of $637 (36%)
The PT of $2,832 yields a rebate amount of $2,124 (75%)
Thus, the extra $4,600 HST would yield a refund of $2,761, resulting in a final price to the assignee of $347,239.

The rebates available on the federal and provincial portion of the HST are not always straightforward. If you are unfamiliar with the calculation of an HST rebate on newly constructed properties, like the one demonstrated above, I invite you to read my HST rebate blog here.

Watch for part 2 of this article where I will discuss the effects on income tax for an assignor.

Disclaimer: The information contained herein is not meant to be professional advice but for educational purposes only. You should consult with your accountant when handling such matters.

 

So I’m a First Time Home Buyer, What Do I Need to Know?

Congratulations, you are on your way to purchasing your dream home, here is what you should know about the biggest investment of your life.

Purchasing a home in this day and age is an expensive proposition, one must be mindful of available government incentives and initiatives designed to reduce the financial burden and ease the process of making their dream home a reality. In this article I will discuss some of these initiatives, including the first-time home buyer RRSP withdrawal, First-Time Home Buyers’ Tax Credit (HBTC), GST/HST Home Buyer Rebate and the Land Transfer Tax Credit.

First, a note of clarification regarding the difference in the definition of a first-time home buyer from the perspective of the Canada Revenue Agency (CRA) for tax purposes and the municipal and provincial government for land transfer tax purposes. According to the CRA, a first-time home buyer is anyone who has not lived in a home owned by oneself or one’s spouse or common-law partner in the year of acquisition, or in any of the four preceding years. Thus, even if you or your spouse/common law partner have previously owned a home that you lived in, so long as you have not been doing so in the 5 years prior to your new home purchase, you are considered a first-time home buyer. Land transfer tax rules differ in that you can only ever qualify once and even then you would need to occupy the property as your principal residence within 9 months of your purchase. Thus, if your first property purchase is strictly for investment purposes, a key implication of this 9 month requirement is that it will not be eligible for the provincial rebate of $2,000, nor will you qualify for the municipal rebate of $3,725 if you’re buying a home in Toronto. The CRA, however, will permit you to purchase a property as an investment and still qualify as a first-time home buyer on your second property.

Q: I owned a property in another country before moving to Canada. Do I qualify for the Land Transfer Tax Rebate?

A: One of the conditions for the Land Transfer Tax Rebate is that you cannot have ever owned an eligible home, or an interest in an eligible home, anywhere in the world.

Two privileges afforded to first-time home buyers under the CRA is the ability to utilize your RRSP to capitalize your down payment and the First-Time Home Buyers’ Tax Credit. You can borrow up to 25k from your RRSPs for a down payment, which represents a substantial amount for most first-time home purchasers. Repayment of the borrowed amount is to be made over a period of 15 years, commencing 2 years after the withdrawal is made. The RRSP is a source of refund on your tax return and, depending on your marginal tax bracket, could result in upwards of 46% back. Should you need more detailed information about the withdrawal process for RRSPs refer to my article here .

Q: I have already used up my first-time home buyer withdrawal before, can I utilize it again?

A: As long as you qualify as a first-time home buyer under the CRA, and provided you have paid back your first RRSP withdrawal in full before the year of purchase, you are permitted to utilize it again.Home Owner

Next is the Home Buyer amount. This is a 5k non-refundable tax credit which works out to $750 back to a first-time home buyer. This credit could be shared or used by one person and must be applied for in the tax return concurrent to the year the purchase was made.

Q: Can I qualify for the Home Buyer tax credit even though I don’t qualify for the first-time home buyer RRSP Withdrawal?

A: As long as you are considered a first-time home buyer under the CRA, you are eligible to apply for both the Home Buyer tax credit and RRSP withdrawal again, with the only point of difference being that qualification of another RRSP withdrawal is, as mentioned earlier, dependant on whether you have paid back the previous RRSP withdrawal in full.  Your ability to reapply for the Home Buyer amount is not affected either way.

Q: My partner was considered a first-time home buyer when they purchased a property, am I still eligible to use my first-time home buyer privileges when we get married?

A: As long as you have not lived in the property that belonged to your partner while you are married or considered to be common-law, you may still utilize your home buyer privileges.

Another key consideration if purchasing a new home is the implication on the HST Rebate. While there is no HST on the resale of a property, there are HST implications to be considered on newly constructed properties. I have previously written a detailed article on the issue here.

In summary, when buying a property from a builder there is an associated HST charge, but this is partially offset by an HST rebate that one will qualify for. The process is straightforward if the property is to be your principal residence; the rebate is handled by the builder and included in the final price. However, things get dicey when the property is to be used as an investment. In this case, the full amount of HST must be paid up-front, then the purchaser must apply for the new residential rental property rebate. The rebate will be granted provided the property is leased for at least 1 year from the transfer of ownership (meaning one year from closing, not occupancy). Consequently, your purchase price for the property will always be higher in the case of an investment property purchase. Always speak with your accountant when making such a big investment before making a first deposit or down payment on a property.

Q: What if I rent out my condo during its occupancy phase before it closes? Since most of the amenities may not be available, I don’t want to move in yet.

A: You or a relation to you must be the first occupant of the property.  If someone else occupies the property, even before closing, you have forfeited your right to the HST rebate. CRA have several means of discovering who the first occupant of the residence is, one of which is to check with the ministry of transportation.

Q: I have purchased a property and plan to live in it as my principal residence. How long do I have to live in it to satisfy the CRA’s requirement for principal residence?

A: Each case dealing with consideration of a principal residence for HST purposes is handled on a case-by-case basis as there is no period specified in the income tax act regarding the ownership of a property being considered principal or investment. If the residency period is fairly short, less than a year for instance, as long as you can justify the reasoning for such a short residency, it may be enough to satisfy the CRA. For example, a qualified reason might be that shortly after moving into the property, your parents fell ill, thus requiring you to live with them. Another possibility is that you moved to a different city for work purposes.

One such credit is the Healthy Home Renovation Tax Credit. You can find more information here.

Disclaimer: The information contained herein is not meant to be professional advice but for educational purposes only. You should consult with your accountant when handling such matters.

What does the HST Rebate mean for home or condo purchases from a builder and why is the government asking for money back from investors?

HST-tax

What is the HST Rebate and what are the differences when applied to the purchase of a principal residence or investment property?

The HST Rebate has been around now since mid-2010 when the CRA introduced the HST system in Ontario. The purpose of the rebate is to discount a portion of the HST on the purchase of newly constructed property by first-time home buyers or investors of real estate, provided that certain conditions are met.

The breakdown of the rebate is as follows: The HST, as most are aware, includes both the Goods and Services Tax (GST), accounting for 5%, and the Provincial Tax (PT), contributing the remaining 8%. The GST credit represents a refund of anywhere from 0-36% on the eligible GST amount attributed to the purchase. The definition of “eligible” GST will depend on whether the purchased property is to be a principal residence or investment property. We’ll assume principal residence for now and address how this differs from an investment property in the next section. The maximum 36% refund applies to any purchase up to and including $350,000. Beyond $350,000, the refund percentage is gradually reduced until $450,000 and above, where the refund goes to 0. The provincial portion of the rebate is 75% of the PT paid (for both residential and investment) but is capped at a purchase price of $400,000. What this means is that if you buy a property for more than $400,000, while you will still be eligible for a PT refund, it would be based on the $400,000 cap. Since the PT on $400,000 is $32,000, this means the maximum PT refund is capped at $24,000 (75% of $32,000). Let’s look at a couple of examples.

Example 1:
Purchase price of a principal residence is $350,000 + HST (GST: $17,500, PT: $28,000). The credit for such a purchase would be 36% of the $17,500 = $6,300 for the GST portion and 75% of the $28,000 = $21,000 for the PT portion, totalling $27,300.

Example 2:
Purchase price of principal residence is $470,000 + HST (GST: $23,500, PT: $37,600) Since the property value exceeds the $450,000 upper limit, the GST portion of the credit is reduced to 0 while the 75% PT credit is only applied to the $400,000 cap, which results in the rebate cap of $24,000 instead of $28,200, which would have been the rebate had the credit applied to the full $37,600 amount of the PT.

Now I will discuss some of the differences in the process between residential and investment property. Firstly, they require different forms that have to be filled out. In the case of a principal residence, especially condos,  the builder usually handles the rebate and will already have included the HST rebate in the purchase price; be aware that you are signing this credit over to them to get a discounted price on the purchase. Keep in mind Housethat for a principal residence, you or a relation to you must be the first occupant of the property.  If someone else occupies the property, even before closing, you have forfeited your right to the  HST rebate.  In the case of investment properties, the full HST is paid up-front, and the purchaser bears the responsibility of applying for the rebate. Consequently, your purchase price will always be higher for an investment property. Make sure that the intended use of the residence is clear to the builder to prevent them from applying for the rebate as a principal residence, only for you to end up using it as an investment property instead. This could create problems in the future if the CRA audits you and discovers the wrong information was given.

Most crucially however, is the difference in the application of the GST rebate between the two types of properties. Recall earlier I had mentioned that the GST credit is applied to the eligible amount of GST. When applied to a residential property, the eligible amount of GST is simply the amount paid at purchase, however, this is not the case for an investment property. For the latter, the eligible amount of GST is based on the fair market value of the property at the time of transfer of ownership from the builder (closing, not occupancy), not the actual GST paid on the purchase. This often results in a smaller rebate for an investment property when compared to a property being purchased as a principal residence. If, for instance, a property was purchased 4-5 years prior and the fair market value has increased significantly by the time ownership was transferred, then the GST rebate portion could be substantially smaller.

Let’s look at how this would affect example 1 when applied to an investment property instead of principal residence:

Example 1A
Purchase price of investment property is $350,000 + HST (GST: $17,500, PT: $28,000). Fair market value at the time of ownership transfer is $500,000. The PT credit is unchanged:  75% of $28,000= $21,000. However, the GST component is no longer based on the $350,000 purchase price, but instead the $500,000 fair market value. Since the fair market value is greater than $450,000 upper bound, the GST credit is reduced to $0 instead of the $6,300 refund we calculated for a residential purchase.

It’s very tempting to flip your property with a hot Toronto Market, but should you? Investment property owners should be aware that in order for you to keep the HST rebate, the property must be leased for at least 1 year from occupancy.

Recently the government has been asking many investors who purchased properties and flipped them upon closing to pay the HST rebate back. This is a substantial repayment of taxes. Make sure you’re informed about the rules and understand the costs before you make any decision.

Also, if the property is your principal residence, there is no period of occupancy specified by the CRA required to allow you to keep your refund. That is, there is no minimum amount of time you, or a relation to you, must use it as a principal residence in order to keep the HST rebate.  Each case is handled on a case-by-case basis by the CRA as required. If the residency period is fairly short, less than a year for instance, as long as you can justify the reasoning for such a short residency, it may be enough to satisfy the CRA. For example, a qualified reason might be that shortly after moving into the property, your parents fell ill, thus requiring you to live with them. Another possibility is that you moved to a different city for work purposes.

The best advice is to talk to your accountant when you buy or sell your property, to understand the tax implications both from HST rebates and any potential capital gains taxes when the property is sold.

Disclaimer: The information contained herein is not meant to be professional advice but for educational purposes only. You should consult with your accountant when handling such matters.