24 September 2002 GST/HST Interpretation 40906 - Sale of Real Property

Dear XXXXX

Thank you for your letter (with attachments) of XXXXX, concerning the application of the Goods and Services Tax ("GST") to a transfer of real property by your clients, XXXXX (the "Vendors").

All references are to the Excise Tax Act ("ETA") unless otherwise indicated.

The following scenario is based on your submission and our telephone conversation on XXXXX.

1. Your clients acquired the subject property through a series of transactions involving the transfer of a XXXXX-acre tract of treed land which XXXXX first acquired from her father, XXXXX. At the time of the transfer to XXXXX, the land was legally described as XXXXX Farm").

2. On XXXXX transferred undivided part-ownership interests in XXXXX Farm to XXXXX and your client, XXXXX, while retaining an ownership interest therein.

3. On XXXXX Farm was resurveyed. A copy of reference plan XXXXX shows the XXXXX Farm as being separated into XXXXX parts as a result of the resurvey and shows Parts XXXXX as consisting of XXXXX acres respectively.

4. By deed XXXXX registered on XXXXX severed and transferred, with XXXXX consent, XXXXX for use as a retirement lot. Prior to obtaining the severance, none of Parts XXXXX through XXXXX could be dealt with independently of the other due to rules under the XXXXX. After obtaining XXXXX consent to sever Part XXXXX from the rest of XXXXX, the legal result was that Part XXXXX could be bought and sold separately.

5. By deed XXXXX, XXXXX transferred Parts XXXXX of XXXXX to XXXXX and your client XXXXX, who subsequently held their respective interests in the land as tenants in common. As PartXXXXX was erroneously included in the transfer, XXXXX quitclaimed Part XXXXX back to XXXXX on XXXXX.

6. By deed XXXXX registered on XXXXX severed and transferred, with XXXXX consent, Part XXXXX of XXXXX to XXXXX for use as a "farmhand's residence". Prior to obtaining the severance, none of Parts XXXXX could be dealt with independently of the other due to the rules under the XXXXX. After obtaining XXXXX consent to sever Part XXXXX, from Parts XXXXX, the legal result was that Part 1 could be bought and sold separately.

7. The Vendors were restricted by the XXXXX from further severing XXXXX. Therefore, Parts XXXXX (hereafter the "Property") could not be bought and sold separately.

8. By deed XXXXX registered on XXXXX transferred Parts XXXXX to XXXXX who subsequently held their respective interests therein as joint tenants.

9. All of the above transfers were made between family members who are related to each other for GST purposes. The land had been for the personal use of the transferors and transferees throughout the period of the transfers.

10. In XXXXX constructed a single unit residential complex within the area now described as XXXXX. The complex had been used as their place of residence since completion of the construction. Part XXXXX consists of XXXXX acres of land and includes the complex as well as a barn, which XXXXX described as a personal-use outbuilding.

11. Throughout the period encompassing the above transfers, Parts XXXXX of XXXXX had remained a woodlot subject to an XXXXX XXXXX prohibiting commercial harvest of the trees. As such, your clients did not harvest any of the trees.

12. Upon acquiring the Property, the Vendors tapped the maple trees located in Parts XXXXX and operated a small scale XXXXX business (the "Business") from XXXXX. The Vendors had no previous experience in operating such a business and had no intention of establishing a commercial operation with a reasonable expectation of profit. The purpose of establishing the business was to recover the applicable property taxes.

13. The Vendors are full-time employees whose primary source of income is derived from their employment. Business was carried on, operated and maintained on a seasonal basis.

14. Neither XXXXX were registered for GST purposes. Accordingly, no input tax credits ("ITCs") have been claimed with respect to the Property or the Business.

15. The Business produced losses in all but one year. The profits and losses of the Business were reported on XXXXX income tax returns as follows:

XXXXX

16. Records of income and expenses were maintained which support the figures reported on XXXXX income tax returns for the above years.

17. Your clients ceased operating the Business during the year XXXXX.

18. On XXXXX, the Property, including the residential complex and storage barn, was sold to XXXXX. Included in the sale was tangible personal property associated with the residential complex, none of which was used in a commercial activity. Also included was certain tangible personal property associated with the Business, namely a XXXXX, XXXXX (i.e., an unaffixed storage container) and all associated equipment including an XXXXX (the "TPP")[.]

19. XXXXX is not related to your clients and was not registered for GST purposes at the time of the sale.

Ruling Requested

The Vendors request a ruling that the sale of the Property, including the residential complex, barn and tangible personal property to XXXXX is an exempt supply.

GST/HST Memoranda Series Chapter 1.4, Goods and Services Tax Rulings (enclosed for your reference), describes circumstances where rulings should and should not be issued. In paragraph 20 of that document, it is indicated that a request for a GST/HST ruling may be refused when a matter on which a determination is requested is primarily one of fact, and the circumstances are such that all the pertinent facts cannot be established at the time of the request. Paragraph 15 further indicates that GST rulings are issued when a determination on a question of fact is required, but only if it is possible to determine all the material facts, and only if those facts can reasonably be expected to prevail.

We regret that we are unable at this time to issue a GST/HST ruling as requested as a determination of all relevant facts in this case cannot be made. Specifically, some of the statements made by the Vendors appear, on their face, to be contradictory. As a result, not all of them can be reasonably expected to prevail.

In this case, whether the Property is taxable or exempt will depend on whether the Vendors had a reasonable expectation of profit ("REOP") with respect to Business. Although the Vendors have stated that they had no intention of establishing a commercial operation with REOP, the fact that the profits and losses of the Business were reported on XXXXX income tax returns would suggest the contrary.

Although we cannot issue a ruling in this matter, we have provided below a GST/HST interpretation on the subject transaction.

Interpretation

Sales of real property made in Canada are generally taxable pursuant to section 165 of the ETA unless a specific provision applies to exempt them.

Pursuant to paragraph (b) of the definition of "real property" in subsection 123(1) of the ETA, legal and equitable interests in real property are considered as "real property". The respective interests of XXXXX in the Property were therefore considered to be real property for GST purposes. Further, the transfer of XXXXX interests in the Property to XXXXX, being a transfer of ownership, met the definition of "sale" in subsection 123(1). Accordingly, the transfers of each of the Vendors' respective interests in the Property constituted sales of real property.

The residential complex

Section 2 of Part I of Schedule V exempts the sale of a residential complex or an interest therein by a person who is not the builder of the complex, unless the person has claimed an ITC in respect of the last acquisition of or an improvement to the complex.

Under the circumstances, neither XXXXX would be considered to be a "builder" of the complex for purposes of subsection 123(1) of the ETA since paragraph (f) of the definition excludes an individual who acquires a residential complex or interest therein otherwise than in the course of a business or an adventure or concern in the nature of trade. As no ITCs were claimed on the construction of the complex, the sale of the Vendors' respective interests in the complex would have been exempt pursuant to section 2 above.

In determining the tax status of the sale of the Property, it is first necessary to determine whether all or part of the Property formed part of the residential complex for purposes of the above exemption. The ETA defines a residential complex to include both the building and the land immediately contiguous to the building that is reasonably necessary for the use and enjoyment of the building as a place of residence for individuals. The determination of the amount of land reasonably necessary for this purpose is the subject of CCRA policy statement P-069, Land Allowance For Residential Complexes (enclosed).

Application of policy statement P-069

Under policy statement P-069, there is an administrative presumption that land in excess of 1/2 hectare that is subjacent and immediately contiguous to a residential building is not reasonably necessary for the use and enjoyment of the building as a place of residence and thus does not form part of the residential complex unless the taxpayer can demonstrate otherwise.

However, the policy also indicates that, in cases where subdivision and severance restrictions exist, it may be possible to include land in excess of 1/2 hectare as forming part of the residential complex. On subdivision and severance restrictions, P-069 states the following:

A property used for residential purposes may be affected by a law or regulation of a municipality or province requiring a minimum lot size for a residential site. A legally imposed minimum lot size, for residential use, exceeding 1/2 hectare that was in effect on the date the property was acquired by the taxpayer, is generally considered to be the minimum amount of land reasonably necessary for the use and enjoyment of the residential building as a residence throughout the period that the property is continuously owned by the taxpayer after that acquisition date.

The policy further states:

However, where a portion of the minimum lot size is not used for residential purposes but rather for commercial activities, such portion is usually not considered to be reasonably necessary for the use and enjoyment of the building as a residence.

You have stated that the XXXXX allowed the Vendors to sever only two parcels from the XXXXX Farm, one for use as a "farmhand's residence" (i.e., Part XXXXX) and the other for use as a "retirement residence" (i.e., Part XXXXX). You further state that the Vendors were prevented by the XXXXX from further severing the XXXXX Farm.

As indicated in P-069, such severance restrictions would be important in determining whether all or part of the Property formed part of the residential complex. However, note if the XXXXX or any other relevant legislation accorded the Vendors some leeway to further sever or subdivide XXXXX Farm, it would have been less likely that any land beyond the 1/2 hectare accorded by P-069 would have formed part of the residential complex. On the other hand, if the provisions of the XXXXX were absolute in terms of the Vendor's inability to further sever or subdivide XXXXX Farm, then, pursuant to P-069, that portion of the Property beyond 1/2 hectare would have formed part of the residential complex unless the Business constituted a "commercial activity".

Existence of commercial activity and REOP

As previously stated, P-069 indicates that if a portion of the minimum lot size is used in commercial activities, such portion is usually not considered to be reasonably necessary for the use and enjoyment of the building as a residence. Subsection 123(1) of the ETA defines "commercial activity", in part, as follows:

a business carried on by the person (other than a business carried on by an individual or a partnership, all of the members of which are individuals, without a reasonable expectation of profit), except to the extent to which the business involves the making of exempt supplies by the person...

For this purpose, the term "business" is defined in the ETA as including a profession, calling, trade, manufacture or undertaking of any kind, whether the activity or undertaking is engaged in for profit. Policy P-167R, Meaning of the First Part of the Definition of Business (enclosed), provides further discussion on this topic. Based on the information provided, it is our view that the Business would have, for GST purposes, constituted a business carried on by your clients.

Whether the Business would have constituted a "commercial activity" would have depended on whether it had a REOP. CCRA policy statement P-176R, Application of Profit Test to Carrying on a Business, provides the criteria for determining whether a business is being carried on with a REOP. If it is determined that the Business had no REOP, then the whole of the Property would be treated as forming part of the residential complex. In this case, the sales of XXXXX respective interests in the residential complex (consisting of both the residential building and related land and improvements) to XXXXX would be exempt from the GST pursuant to section 2 of Part I of Schedule V to the ETA.

However, if it is determined that the Business had a REOP, and therefore constituted a commercial activity, the residential complex would have been treated under P-069 as including only 1/2 hectare of land that is subjacent and immediately contiguous to the building. The remainder of the Property (hereafter the "Remainder"), not being reasonably necessary for the use and enjoyment of the building as a place of residence, would therefore not have formed part of the residential complex and may have been subject to a different tax treatment.

GST implications where the Business constituted a "commercial activity"

If the Business was a business carried on with REOP, and therefore a "commercial activity", there are two things that would need to be addressed: (1) the GST treatment of the Remainder after the Business became inactive; and (2) the sale of the Remainder to XXXXX.

1. Cessation of the Business

Pursuant to subsection 190(2), self assessment of GST/HST is necessary where real property that was used in a commercial activity is appropriated for the personal use or enjoyment of the individual. Subsection 190(2) states as follows:

Where at any time an individual appropriates real property for the personal use or enjoyment of the individual, another individual related to the individual or a former spouse or common-law partner of the individual and, immediately before that time, the property

(a) was held for supply, or was used or held for use as capital property, in a business or commercial activity of the individual, and

(b) was not a residential complex, the individual shall, for the purposes of this Part, be deemed

(c) to have made and received a taxable supply by way of sale of the property immediately before that time, and

(d) to have paid as a recipient and to have collected as a supplier, at that time, tax in respect of the supply, calculated on the fair market value of the property at that time.

If the Remainder constituted capital real property used in a commercial activity of the Vendors, subsection 190(2) would have required the Vendors to self assess GST based on the fair market value of the Remainder if it had been appropriated for their personal use and enjoyment. Under this provision, GST would have been deemed to be collected at the time of the appropriation.

Note that a simple cessation of the Business would not necessarily have implied that the Remainder was appropriated for personal use. It is possible that a "commercial activity" may have still existed with respect to the Remainder. Subsection 141.1(3) of the ETA provides that to the extent that a person does anything (other than make a supply) in connection with the disposition or termination of a commercial activity of the person, the person shall be deemed to have done that thing in the course of commercial activities of the person. Therefore, even if the Vendors had ceased active use of the Remainder in the Business, the holding of the Remainder pending its sale could be viewed as an action to terminate a commercial activity, which itself would be deemed to be a commercial activity pursuant to subsection 141.1(3). If this was the case, subsection 190(2) would not have applied to require the Vendors to self-assess.

2. Sale to XXXXX Pursuant to subsection 136(2) where a supply of real property includes a residential complex and other real property which is not part of a residential complex, the supply of the complex is deemed to be a separate supply from that of the other real property and neither supply is incidental to the other. The sale of the Property to XXXXX would therefore be subject to the provisions of subsection 136(2). As discussed above, the sale of the respective interests of XXXXX in the residential complex was exempt from the GST pursuant to section 2 of Part I of Schedule V. However, the Remainder would have been subject to different provisions of the ETA.

Whether the sale of the Remainder would have been taxable depends on the application of the exempting provisions contained in section 9 of Part I of Schedule V. As you are aware, section 9 generally applies to exempt a supply of real property made by an individual unless one of the exclusions to the exemption applies.

Paragraph 9(2)(a)

A sale of real property made by an individual or personal trust is excluded from the general exemption if, immediately before the time ownership or possession of the property is transferred, the property is capital property used primarily in a business carried on by the individual or the personal trust with a reasonable expectation of profit.

You have indicated that the Remainder was held for the personal use and enjoyment of the Vendors from the time that the Business ceased. If there had been an appropriation of the Remainder such that subsection 190(2) applied to require self assessment, (i.e., if the Remainder had been appropriated any time before the sale to XXXXX), the sale of the Remainder to XXXXX would not have been excluded by paragraph 9(2)(a) and therefore may have been exempt, subject to paragraph 9(2)(c) below.

However, if the Vendors had continued to use the Remainder in "commercial activities" (e.g., by virtue of subsection 141.1(3) above), paragraph 9(2)(a) would have excluded the sale of the Remainder to XXXXX from exemption. In this case, the supply of the Remainder to XXXXX would have been taxable.

Paragraph 9(2)(c)

Assuming that subsection 190(2) applied to require self assessment, paragraph 9(2)(a) above would not have applied thus exempting the Remainder unless paragraph 9(2)(c) applied to make the sale taxable.

The exclusion in paragraph 9(2)(c) provides that the supply of a part of a parcel of land by an individual will not be exempt where the parcel was severed or subdivided by the individual. There are exceptions to this rule. Specifically, where a parcel of land is subdivided or severed into only two parts, and the person did not previously subdivide or sever it from another parcel of land, paragraph (c) does not apply.

In the present case, the parcel of land for purposes of paragraph (c) is the whole of the XXXXX Farm. The "part of the parcel" for that purpose is the sale of the property at issue, namely the Remainder.

It is stated that XXXXX was party to only one severance of the XXXXX Farm, namely the severance of Part XXXXX. Since XXXXX did not sever the XXXXX Farm more than once, paragraph 9(2)(c) would not have applied to exclude the sale of his interest in the Remainder from exemption. Since there are no further applicable exclusions to the section 9(2) exemption, the sale of XXXXX interest in the Remainder would have been exempt from the GST.

On the other hand, XXXXX was party to the first severance of XXXXX Farm in XXXXX (i.e., Part XXXXX) and was also party to the second severance in XXXXX (i.e., Part XXXXX). Consequently, since XXXXX severed the XXXXX. Farm more than once, the sale of her interest in the Remainder would have been excluded from exemption by paragraph 9(2)(c). As such, the sale of her interest in the Remainder would have been subject to the GST.

Rebate under section 257

Persons who are not registered for GST purposes but make taxable sales of real property may be eligible for a rebate of all or part of the GST paid by the person on the last acquisition of the property and improvements thereto.

If subsection 190(2) above were applicable to impose self assessment of GST upon cessation of the Business, and if XXXXX interest in the Remainder was taxable by virtue of exclusionary paragraph 9(2)(c) above, section 257 may permit a GST rebate. The rebate under section 257 would be equal to the lesser of the basic tax content of the property and the tax payable on the sale to XXXXX. Note that the "real property" in this case would be XXXXX interest in the Remainder.

The term "basic tax content" is defined in subsection 123(1) and is somewhat extensive. Briefly, the "basic tax content" of the property of a person is the tax payable by the person on the last acquisition of the property, plus tax payable on any improvements, less rebates (but not ITCs) the person was entitled to, minus an adjustment for the depreciation, if any, in the fair market value of the property and/or improvements. In the present case, if the fair market value of XXXXX interest in the Remainder was the same at the time of the sale to XXXXX as it was upon appropriation, the basic tax content would be the tax deemed paid under subsection 190(2).

Detailed information on the calculation of basic tax content is included in enclosed Memoranda Series Section 19.4.2, Commercial Real Property - Deemed Supplies, starting at paragraph 20.

The TPP

Lastly, the GST implications with respect to the TPP, whether it be regarding a sale, appropriation or other change in use is predicated on the Vendors being registrants. As they were not, there would have been no GST consequences with respect to the TPP.

The foregoing comments represent our general views with respect to the subject matter of your letter. Proposed amendments to the ETA, if enacted, could have an effect on the interpretation provided herein. These comments are not rulings and, in accordance with the guidelines set out in section 1.4 of Chapter 1 of the GST/HST Memoranda Series, do not bind the Canada Customs and Revenue Agency with respect to a particular situation.

Should you have any further questions or require clarification on the above or any other GST or Harmonized Sales Tax matter, please do not hesitate to contact me at (613) 952-8816.

Yours Truly

Paul Hawtin
Rulings Officer
Real Property Unit
Financial Institutions and Real Property Division
Excise and GST/HST Rulings Directorate