27 June 2003 GST/HST Ruling 40434 - Application of GST/HST with Respect to Certain Proposed Real Property Transactions

Dear XXXXX

Thank you for your letter XXXXX (with attachments), concerning the application of the Goods and Services Tax (GST)/Harmonized Sales Tax (HST) to the proposed transaction (s) described below.

We confirm that we have received a Third Party Authorization form authorizing your firm to act as a representative of XXXXX for GST/HST purposes.

You confirmed that, to the best of your knowledge, none of the issues described herein is being considered by a Canada Customs and Revenue Agency (CCRA) Office in connection with a GST/HST return already filed and none of the issues is under objection or appeal.

Statement of Facts

Our understanding of the facts, the proposed transactions, and the purpose of the proposed transactions is as follows.

Legal description of Land-owner, Developer and Subject Property

1. The XXXXX (the "Land-owner") is XXXXX. The Act sets out the objects, purposes and powers of the Land-owner, and includes the XXXXX. The Land-owner is XXXXX.

2. For GST/HST purposes, the Land-owner is considered XXXXX[.] In accordance with the definition of XXXXX under subsection 123(1) of the Excise Tax Act (ETA) and the XXXXX Regulations to that Act.

XXXXX.

3. XXXXX, the Land-owner is a XXXXX "non-profit organization" in accordance with subsection 259(1). In addition the Land-owner is a "qualifying non-profit organization" as, in accordance with subsection 259(2), its "percentage of government funding" for the current year is at least 40%. For purposes of this ruling, the Land-owner is considered to be a qualifying non-profit organization at all relevant times.

4. The Land-owner currently owns vacant land legally described as XXXXX (the subject property). The subject property has a municipal address of XXXXX. It is currently referred to as XXXXX and is formerly known as XXXXX.

Development Agreement and Ground Lease

5. In or around XXXXX, the Land-owner entered into the XXXXX (the Development Agreement) with XXXXX (the Developer) XXXXX.

The Demised Premises are to consist of a mixed-use (i.e. residential and commercial) building (the Building) on the subject lands. Note, the subject lands together with the Building are hereafter referred to collectively as the "subject property".

6. In accordance with the Development Agreement, the excavation for the construction of the Building is to commence on or before XXXXX, with its completion (and readiness for occupancy) on or before XXXXX.

7. In or around XXXXX, the Land-owner, as lessor, entered into the Ground Lease with the Developer, as lessee, to supply the subject lands by way of lease. At the commencement of the Ground Lease the subject lands were vacant.

8. The Developer acquired the subject lands under the Ground Lease for the purpose of developing and constructing the Building for re-supply to third parties in the course of its business activities. The Building is to consist of XXXXX stories (above ground) and XXXXX stories underground, as a parking garage. The top XXXXX of the above ground stories and XXXXX of the underground parking garage will be used for residential purposes (the Residential Portion) with the remainder of the subject property (i.e. the first XXXXX stories above ground and XXXXX of underground parking) used for retail or other commercial purposes (the Retail Portion).

9. The Land-owner estimates that the Residential Portion and the Retail Portion of the subject property will consist of approximately XXXXX % and XXXXX %, respectively.

10. The Ground Lease provides that the Developer will have and hold the Demised Premises for and during the term of XXXXX years commencing XXXXX XXXXX, and terminating XXXXX, at which time the Developer will surrender and deliver to the Land-owner the Demised Premises XXXXX.

11. The Ground Lease provides that on the first day of each Lease Year, the Developer will pay an annual Base Rent to the Land-owner equal to the amount set out in the table included therein XXXXX. Moreover, the Ground Lease states:

(i) XXXXX.

12. The Ground Lease provides that for Lease Years XXXXX, no annual Base Rent will be charged to the Developer by the Land-owner XXXXX.

13. A letter from the Land-owner to the Developer dated XXXXX states that "[i]n lieu of the lease charges for the first 4 years, the Developer will upgrade the exterior wall surface with Indiana Limestone and contribute an additional $417,000.00 towards its cost." (The total cost for the exterior cladding is XXXXX. The remaining balance, XXXXX, will be paid by XXXXX.).

14. The Ground lease provides that at any time prior to the beginning of Lease year XXXXX, being XXXXX, the Developer has the option of paying the entire base rent payable for the lease term in one single payment equal to the net present value of the Date of Commencement, using an agreed discount rate of XXXXX %. The Developer intends to exercise this option and to pay the entire base rent as a single lump-sum payment in accordance with this provision of the Ground Lease.

15. The Ground Lease provides that "other rent" or "additional rent" will be charged by the Land-owner to the Developer in circumstances where the latter XXXXX of the Development Agreement. The Developer is required to make payments of XXXXX for each of the following milestones the Developer fails to meet: XXXXX

•   commence excavation for the Construction of the Building before XXXXX;

•   complete excavation and the foundation work for the Building by XXXXX;

•   complete the construction of the Building by XXXXX; and

•   complete construction of the Building by XXXXX.

16. The Ground Lease provides that XXXXX[.]

17. The Ground Lease provides that the Land-owner consents to the registration of one or more declarations and descriptions that divide the Developer's leasehold estate in the subject property into units and common elements (referred to as leasehold condominium units (LCUs) XXXXX and create one or more leasehold condominium corporations (LCCs) XXXXX. Further, the Ground Lease permits the Developer to convey LCUs and their appurtenant interests in the subject property for fixed periods, not to exceed the term of the Ground Lease.

XXXXX

Residential Portion of the Subject Property

18. The Developer proposes to register a declaration and description that divides the Developer's leasehold estate in the Residential Portion into XXXXX dwelling units, XXXXX storage units, XXXXX (more or less) parking units and common elements and to create a LCC (the Residential LCC). Note, a dwelling unit together with a storage unit and one or more parking units are hereafter collectively referred to as a "Residential Unit".

19. None of the Residential Units or any of the common elements in the Residential Portion will be used for commercial purposes or other uses not ancillary to residential purposes.

20. The Developer will provide the following amenities for use by the owners and occupants of the Residential Units: XXXXX elevators connecting the Residential Units to the residential level of the parking garage; on level XXXXX — XXXXX exercise room, separate men's and women's change rooms and washrooms, games room, XXXXX sauna and XXXXX whirlpool; on level XXXXX — a reception room, a board room/dining room, a business centre, XXXXX offices, a kitchen and XXXXX washrooms; and on level XXXXX — a landscaped terrace area. For purposes of this ruling all of these amenities are presumed to be common areas of the Residential Portion.

21. The underground parking garage will have XXXXX designated parking units. Approximately XXXXX parking units will be assigned to Residential Units with the remaining XXXXX parking units on hand for public parking. Note, it is assumed for purposes of this ruling that the XXXXX parking units are available for customer parking only and thus form part of the Retail Portion of the subject property.

22. The Developer's draft Disclosure Statement XXXXX contains the following key articles:

(a) the proposed condominium property is referred to as being composed of a leasehold interest;

XXXXX

(b) the proposed condominium property is to consist of 70 Residential Units, XXXXX (Article III of the Disclosure Statement states that there will be XXXXX parking units. However XXXXX the Declaration Statement states that there will be XXXXX parking units. For purposes of this ruling, the number of parking units belonging to the Residential Units are considered to be XXXXX.) parking units, and XXXXX storage units (i.e. Residential Units);

XXXXX

(c) the corporation created in respect of the residential component of the development will be a LCC; [XXXXX] and

(d) the Developer does not intend to lease any of the proposed Residential Units unless, due to market conditions, there remain unsold Residential Units, in which case it intends to lease not more than 25% of the proposed Residential Units.

XXXXX

Agreement of Purchase and Sale

23. Pursuant to the sample Agreement of Purchase and Sale provided by the Developer, the Developer proposes to dispose of its leasehold interest in the Residential Units. The Agreement of Purchase and Sale contains the following key provisions:

(a) A person, as "Purchaser", agrees to purchase a Residential Unit from the Developer, as Vendor; [pre-amble to Agreement of Purchase and Sale]

(b) The "Purchase Price" for the Residential Unit will be inclusive of Goods and Services Tax (GST) net of the New Housing Rebate. In other words, the purchaser agrees to "assign" or transfer his New Housing Rebate entitlement to the Developer, as "Vendor", and the "Purchaser" acknowledges having received from the Vendor a credit in the amount of such a New Housing Rebate;

XXXXX

(c) Title to the Residential Unit is referred to as the XXXXX[;]

(d) The Purchaser is a "home buyer" XXXXX[;]

(e) The Purchaser agrees not to register its Agreement of Purchase and Sale against the title to the Property, Residential Unit or the Condominium; XXXXX[;]

(f) Where the Residential Unit is substantially complete and fit for occupancy on the Closing Date (The Closing Date is, for purposes of this ruling, the actual occupancy date and the date the Purchaser takes possession of the Residential Unit pursuant to the terms of the Agreement of Purchase and Sale.) but the condominium complex has not been registered, the Purchaser shall occupy the Unit on the Closing Date pursuant to the terms set out in XXXXX the Agreement of Purchase and Sale;

XXXXX

(g) Residential Units are covered by the Warranty Program XXXXX[;]

(h) At the Unit Transfer Date, (The Unit Transfer Date is, for purposes of this ruling, the date the Purchaser receives assignment of the Developer's leasehold title to the Unit.) the risk in the Residential Unit transfers from the Vendor to the Purchaser; and

XXXXX

(i) Vendor's right to lease any unsold Residential Units is distinguished from its sale of such Units.

XXXXX

24. Where a Purchaser occupies a Residential Unit from the Closing Date until the Unit Transfer Date, the Purchaser obtains an occupancy licence from the Developer pursuant to the Agreement of Purchase and Sale with the following key terms XXXXX:

(a) The term of the occupancy licence shall be terminated, unless otherwise expressly provided for, on the Unit Transfer Date;

(b) The Purchaser shall pay the amount set forth in paragraph XXXXX of the Agreement of Purchase and Sale; and

(c) The Purchaser shall pay to the Developer the Occupancy Fee calculated as:

(i)the amount of interest payable in respect of the unpaid balance of the Purchase Price at the prescribed rate;

(ii) the amount reasonably estimated by the Developer on a monthly basis for the municipal realty taxes attributable by the Developer to the Unit; and

(iii) the projected monthly common expense contribution for the Unit.

25. Of the total of XXXXX Residential Units, XXXXX are to be assigned for consideration of less than $450,000.

Retail Portion of the Subject Property

26. The Retail portion does not form any part of the Residential Portion. Although the Developer is permitted to register a declaration and description that divides the Developer's leasehold interest in the Retail Portion into units and common elements (Retail Units) and creates a LCC (Retail LCC), the Developer has not provided a draft Disclosure Statement with respect to a Retail LCC.

27. Alternatively, where the Developer does not create Retail Units, the Developer proposes to sub-lease space in the Retail Portion to various tenants for their retail or other commercial use.

Proposed Transaction(s)

In addition to the transactions already entered into noted in the Statement of Facts, the Developer proposes to enter the following transactions:

1. The Developer, as Vendor, proposes to enter into Agreements of Purchase and Sale with prospective purchasers for the purpose of selling its leasehold interest in the Residential Units of the subject property.

2. To the extent that the Developer is unable to sell its leasehold interest in some of the Residential Units, the Developer intends to lease those Residential Units. It is anticipated that the Developer will not lease more than XXXXX % of the total Residential Units.

3. Where the Closing date is prior to the Unit Transfer Date under a particular Agreement of Purchase and Sale, the Developer proposes to give possession of the Unit to the Purchaser under a lease licence or similar arrangement from the Closing date to the Unit Transfer Date pursuant to the terms set out in XXXXX the particular Agreement.

4. The Developer, as Vendor, proposes to enter into Agreements of Purchase and Sale with prospective purchasers for the purpose of selling its leasehold interest in the commercial Units of the subject property.

5. Alternatively, where the Developer does not register a condominium complex in respect of the Retail Portion, the Developer proposes to lease the commercial space in the Retail Portion to various tenants for the purpose of enabling the tenants to conduct their retail business operations from such commercial space.

Ruling Requested

1. Whether XXXXX the Ground Lease, XXXXX paragraph, as stated in paragraph 11 of the Statement of Facts, is technically accurate and, if not, what would be the proper method of calculating the correct amount of GST;

2. Whether for Lease Years XXXXX, the Land-owner will be required to charge GST to the Developer despite the fact that no annual Base Rent will be charged by the Land-owner for those years, yet the Developer will incur additional costs for exterior upgrades to the Building for the same time period as stated in paragraph 13 of the Statement of Facts;

3. Whether any GST applicable to additional rents charged by the Land-owner to the Developer (as stated in paragraph 15 of the Statement of Facts) should be treated in the same manner as the annual Base Rent (i.e., in the same way as in question 1 above), and if not, what would be the proper approach to calculate the correct amount of GST;

4. Whether the Land-owner will be entitled to any input tax credits (rather than the 50% PSB rebate as a XXXXX) in respect of supplies of property and services acquired or imported by them for consumption, use or supply in relation to the provision of the Ground Lease;

5. Whether the Land-owner and/or the Developer will be required to self-assess GST at the later of the time the construction of the Building is substantially completed and the time possession of any Residential Unit in the Building is made for the purpose of its occupancy by an individual as a place of residence; and

6. Whether any other GST issues will apply to the Land-owner or the Developer in connection with the Development Agreement, the Ground Lease or the proposed transactions.

Ruling Given

Provided that the preceding statements constitute a complete and accurate disclosure of all the facts, the proposed transactions, and the purpose of the proposed transactions, and provided that the proposed transactions are completed as described above, our ruling is as follows:

1. Tax status of supplies made by the Land-owner under the Ground Lease and the apportionment of consideration between such supplies

The Land-owner is deemed for GST purposes to be making two supplies of two separate properties under the Ground Lease in accordance with subsection 136(2). One of these two deemed properties being separately supplied is the Residential Portion (While during the term of the Ground lease where the land is excavated and the Building is under construction (refer to Period I on page 9) subsection 136(2) will apply to deem the land and building construction that is reasonably expected to form the Residential Units once constructed be separate property that is separately supplied from land and building construction reasonably expected to form the Retail Portion.) of the subject property and the other deemed property separately supplied is the Retail Portion. The tax status of supplies made by the Land-owner under the Ground Lease will be given with respect to the Retail Portion and the Residential Portion, separately.

The Apportionment Issue between the Retail and Residential Portions of the subject property will also be addressed.

A. Retail Portion

The Land-owner's supply under the Ground Lease of the Retail Portion of the subject property is a taxable supply in accordance with paragraph 123(1)(c) of the definition of commercial activity and the definition of taxable supply in subsection 123(1), as there is no exemption in Schedule V for this supply. The Retail Portion is a taxable supply by way of lease throughout the entire lease term of the Ground Lease. This supply is taxable regardless of whether the Developer chooses to sub-lease space in the Retail Portion to tenants or to register a LCC to create Retail Units and to assign Retail Units to Purchasers. The Land-owner is required to collect and the Developer is required to pay GST calculated on the rent payable under the Ground Lease that is reasonably attributable to the Retail Portion of the subject property.

B. Residential Portion

The tax status of supplies made by the Land-owner under the Ground Lease of the Residential Portion will vary depending in which of the following 3 distinct time periods of the term of the Ground Lease the supplies are made:

Period I - from the date the Ground lease is entered into until immediately before the Residential Units first come into existence (In accordance with XXXXX, upon registering a declaration and description, the leasehold estate in the subject property is legally divided into units and common elements. For GST purposes, each of the Residential Units is a "residential condominium unit" as defined in subsection 123(1). Since the Developer has submitted as fact, supported by its proposed declaration, that it intends to register the condominium plan under XXXXX, the residential condominium units will exist for GST purposes once the extent of construction of the condominium complex reaches a stage where the Units are reasonably capable of being used by individuals as places of residence. Therefore, once the Residential Units first come into existence by way of construction, the Land-owner will be considered for GST purposes to be making separate supplies by way of lease of the property comprising each Residential Unit (i.e. as if they were legally divided).);

Period II - from the time the Residential Units first come into existence until immediately before a particular Residential Unit is assigned to a Purchaser; and

Period III - from the time a particular Residential Unit is assigned to a Purchaser until the end of the term under the Ground Lease.

Period I

During this period, the Land-owner's supply of the Residential Portion is an exempt supply under subparagraph 7(a)(ii) of Part I of Schedule V to the ETA whereas the supply of the Retail Portion is a taxable supply. Thus, any payment of rent (The term "rent" used in this ruling refers to any payment under the Ground Lease that is consideration for the lease of subject property. Refer to ruling # 3 for a determination as to whether payments, other than the base rent, are also rent, as referred to above.) under the Ground Lease during Period I must be apportioned between these two separate supplies.

In order to illustrate the application of the GST in Period I, we provide the following example. Assume that the Developer makes annual rent payments in Period I of $XXXXX pursuant to XXXXX the Ground Lease. (Note, since Period I is likely to be entirely within the first XXXXX years of the Ground Lease, no base rent would payable by the Developer to the Land-owner under the Ground Lease) In this example, GST will only apply to the portion of this rent payment that is reasonably attributable to the Retail Portion. Refer to the section below under the heading "C. Apportionment" for the ruling addressing the apportionment of rent issue.

Period II

The difference between Period I and Period II is that for purposes of subsection 136(2), one of the deemed separate properties, being the Residential Portion, now consists of Residential Units that are "residential condominium units" in subsection 123(1) of the ETA. The other property remains the Retail Portion. At the beginning of Period II, when the Residential Units first come into existence, the supply of XXXXX each Residential Unit to the Developer under the Ground Lease will be a taxable supply in accordance with the definitions of commercial activity in paragraph 123(1)(c) and taxable supply in subsection 123(1), as there is no exemption for these supplies. Subparagraph 7(a)(ii) of Part I of Schedule V will not exempt the supply of each Residential Unit since section 7 only applies to supplies of land (and not to supplies of residential complexes) made under a lease licence or similar arrangement. XXXXX Finally, section 6.1 of Part I of Schedule V will not apply to exempt the lease of the Residential Units by way of lease from the Land-owner to the Developer under the Ground Lease since the Developer has acquired the Residential Units for the purpose of making supplies of the Units by way of assignment.

The Land-owner will undergo a change-in-use under subsection 206(2). This change-in-use will occur with respect to each Residential Unit at the beginning of Period II as a consequence of its exempt supply of the Residential Portion becoming taxable supplies of Residential Units. Subsection 206(2) will apply to the Residential Portion that becomes Residential Units but not to the Retail Portion since only the Residential Portion undergoes a change-in use. As a result of the application of subsection 206(2), the Land-owner will be deemed to have received a supply of each Residential Unit by way of sale and to have paid GST in respect of each supply equal to the Land-owner's basic tax content (The Land-owner's BTC of a Residential Unit will be equal to the GST payable for its acquisition of the land portion of the Residential Unit, plus any GST payable by the Land-owner for any improvements made to the property comprising the Residential Unit prior to the change-in-use, less any public service body rebates (under section 259) that the Land-owner has been entitled to claim prior to the change-in-use in respect of such GST payable. This calculation of the BTC is predicated on the assumption that the fair market value of the subject property comprising the Residential Units at the time of the change-in-use is not less than the total value of the consideration that was payable for the Land-owner's last acquisition of the that property plus the total of all amounts of consideration payable of any improvements made.) (BTC) for each Residential Unit at the beginning of Period II.

Note however, the GST consequences of this change-in-use may be delayed until the beginning of the next lease interval where the change-in-use occurs subsequent to the beginning of the current lease interval (A lease interval is the period of time within the term of the lease that is attributable to a lease payment and is deemed for GST purposes to be a separate supply of property for the duration of the lease interval in accordance with subsection 136.1(1).). It is expected that all of the Residential Units will first come into existence prior to XXXXX the deadline for pre-payment of the entire base rent. The determination as to whether the balance of the lease term following the pre-payment of the base rent will consist of only one lease interval or multiple lease intervals will depend on whether payments under the Ground Lease made subsequent to the pre-payment of base rent are also recognized as rent payments for GST purposes.

Refer to ruling #2.

In order to illustrate the application of the GST in Period II, we provide the following example. Assume that Period II begins (i.e. the Residential Units first come into existence) prior to substantial completion of the Building and the pre-payment of the base rent, which occur on XXXXX. Assume that the Land-owner's BTC for the subject property at the beginning of Period II is $XXXXX and that $XXXXX is the amount of the BTC that is reasonably attributable to the Residential Units.

At the beginning of Period II the Land-owner would undergo a change-in use under subsection 206(2) with respect to the portion of the subject property that comprises the Residential Units. The Land-owner would be deemed to have received a supply by way of sale of the subject property and to have paid GST equal to $XXXXX. Since the Land-owner would begin to make taxable supplies of the Residential Units to the Developer, the Land-owner would be entitled to claim ITCs of $XXXXX under paragraph 169(1)B(c).

Period III

The ending of Period II and the beginning of Period III occurs on a Unit-by-Unit basis, as each Residential Unit is assigned by the Developer to a particular Purchaser. Once the assignment of a Residential Unit takes place, the Purchaser effectively replaces the Developer as lessee under the Ground Lease. The Land-owner's supply of the Residential Unit by way of lease to the Purchaser (unlike the same supply to the Developer) is an exempt supply under section 6 of Part I of Schedule V.

Thus the Land-owner goes from making a taxable supply of a Residential Unit to the Developer to making an exempt supply of the Unit to a Purchaser, at the time of a Unit's assignment. As a consequence, the Land-owner undergoes a change-in-use for GST purposes on a Unit-by-Unit basis. Subsection 206(4) will deem the Land-owner to have made a sale of the Residential Unit assigned by the Developer and to have collected GST equal to the Land-owner's BTC of that Unit, immediately before the change-in-use of the Unit.

This change-in-use under subsection 206(4) will be delayed, as noted for subsection 206(2) above, where the date of the Unit's assignment does not coincide with the beginning of a lease interval under the Ground Lease. Where this is the case, the GST consequences of this change-in-use would be delayed until the beginning of the next lease interval (i.e. the due date of the next rent payment).

As indicated under Period I, where assignments of Residential Units occur after the pre-payment of the base rent, the beginning of the next lease interval will depend on when subsequent payments occur under the Ground Lease that are recognized as rent payments for GST purposes (refer to ruling #2). Should the Developer's pre-payment of the base rent under the Ground Lease occur after the Residential Units first come into existence and after one or more of the Residential Units are assigned by the Developer, GST would apply to the entire pre-payment of rent as consideration for taxable supplies of Residential Units by way of lease to the Developer not for exempt supplies of Residential Units by way of lease to Purchasers.

In order to illustrate the application of the GST in Period III, we provide the following example. Suppose that the Developer exercises its option under the Ground Lease and makes a lump sum pre-payment of the base rent in the amount of XXXXX on XXXXX, at the beginning of Lease Year XXXXX (as per XXXXX the Ground Lease). Also, suppose at XXXXX, the construction of the building is substantially complete (including all XXXXX Residential Units) and that although all of the Residential Units are "pre-sold" by the Developer, only XXXXX of the Residential Units have been assigned by the Developer to Purchasers within the current reporting period of the Land-owner. Finally, assume that the Land-owner's BTC reasonably attributable to the XXXXX assigned Units is $XXXXX at the time the Units are assigned.

In this example, the Land-owner will be required to collect GST of XXXXX on the entire pre-payment of XXXXX made by the Developer to the Land-owner. The Developer will be entitled to claim an ITC of XXXXX in respect of the GST it is required to pay to the Land-owner.

In addition, the Land-owner will undergo a change-in-use in the current reporting period (As previously noted the GST consequences of the change-in-use may be delayed where the change-in-use does not coincide with the commencement of a lease interval. This example assumes that the commencement of the next lease interval occurs under the Ground Lease on or after the assignment of the XXXXX Units takes place and on or before the end of the current reporting period.). In accordance with subsection 206(4), the Land-owner will be deemed to have made a taxable sale of the XXXXX assigned Units and to have collected GST in the amount of $XXXXX. Thus, assuming no other taxable transactions occur in the current reporting period, the Land-owner's net tax for that reporting period would be equal to XXXXX.

As stated in the Statement of Facts, the Developer will sub-lease Residential Units in the event that it is unable to sell (assign) them and, in such a circumstance, it will not sublease more than XXXXX % of the total Residential Units. Where the Developer does begin to sub-lease a Residential Unit (rather than assign it) and such a sub-lease is an exempt supply under section 6 of Part I of Schedule V, the supply of the Residential Unit from the Land-owner to the Developer will be an exempt supply under section 6.1 of Part I of Schedule V to the ETA. However, for section 6.1 to apply, the Developer must sub-lease the Unit throughout a lease interval under the Ground Lease. It is our position that although one or more of the Residential Units may be first supplied by way of sub-lease, all of the Residential Units will be held by the Developer for the purpose of assigning them. As a result, at the commencement of Period II, all of the Residential Units will undergo a change-in-use under subsection 206(2), as described under Period II above. In addition, where Developer subleases a Residential Unit to an occupant such that section 6.1 applies to exempt the lease of the Residential Unit by the Land-owner to the Developer under the Ground Lease, the Land-owner will be subject to the same change-in-use rule (i.e. subsection 206(4)) in the same manner as when the Developer assigns a Residential Unit, as described above.

C. Apportionment Issue

In Period I, the division of the subject property into these two deemed properties separately supplied under subsection 136(2) is based upon the intent of the Developer to construct a building that consists, in part, of XXXXX Residential Units. These Residential Units are "residential condominium units" (RCUs) and "residential complexes" as defined in subsection 123(1) for GST purposes. Since during Period I, the Residential Units will be under construction, it is necessary for GST purposes to apportion the rent payable under the Ground Lease between these two deemed supplies on a reasonable basis.

In effect, such an apportionment amounts to estimating the extent to which the subject property will be comprised of Residential and Retail Portions upon its completion and to apportion all rent payable under the Ground Lease between the Residential and Retail Portions on this basis.

As stated above, the supply of the Residential Portion and the Retail Portion under the Ground Lease will be an exempt supply (or supplies) and a taxable supply, respectively, in Periods I and III. Therefore during Periods I and III an apportionment of rent between such supplies must be made on a reasonable basis in accordance with subsection 153(2). Whether XXXXX % of the rent is reasonably attributable to the making of the exempt supply (or supplies) and XXXXX % to the making of the taxable supply (or supplies) is a question of fact for which a ruling cannot be provided.

However, it is our view that an apportionment of rent based on space (i.e. the floor space in the Building and the land areas) occupied by the Residential and Retail Portions would be reasonable where these Portions are identical in every significant respect (e.g. values attributable to improvements, etc.). For example, where the Residential Portion occupies XXXXX % of the of the total space of the subject property then, subject to the proviso noted above, XXXXX % of the total rent payable under the Ground Lease would be reasonably attributable to the making of the supply or supplies of the Residential Portion.

2. GST treatment of taxable supplies made by the Land-owner during Years XXXXX of the Ground Lease

The Land-owner will be required to charge GST in respect of all taxable supplies made under the Ground Lease during years XXXXX of the lease term (referred to as the rent-free period) but only to the extent that rent is actually payable during the rent-free period.

The Developer is not considered to be paying an amount referred to as "base rent" in the Ground Lease during the rent-free period provided the Developer's total contribution to the costs of the exterior upgrade (i.e. XXXXX plus the value of its labour to install the exterior upgrade) does not exceed the costs that the Developer would have incurred had the rent-free period not been provided. In the event that the Developer's total contribution to the costs of the exterior upgrade exceed the costs it would have incurred had the rent free period not been provided, the excess amount would be considered rent attributable to the rent-free period. Where applicable, such rent, paid as monetary and/or non-monetary consideration, would be apportioned between the deemed separate supplies as stated in ruling # 1.

In addition, the Land-owner's payment XXXXX to the Developer for part of materials cost of the exterior upgrade is consideration for the supply of construction materials made by the Developer to the Land-owner. Since this supply of construction materials is a taxable supply, the Developer is required to charge the Land-owner GST in the amount of XXXXX in respect of this supply.

3. GST treatment of additional rents charged by the Land-owner under the Ground Lease

The Ground Lease deems any amount payable by the Developer to the Landlord, other than the base rent, to be "rent" subject to all rights and remedies available to the Land-owner for the collection of rent in arrears under the Ground Lease.

Despite this description of such amounts payable under the Ground Lease, it remains a question of fact and law as to whether any such amounts are consideration for the supply of the subject property by way of lease or for any other supply. CCRA's policy is not to differentiate between the base rent and other amounts payable (often referred to as "additional rent" or "other rent") where such amounts represent a "pass through" or recovery of the lessor's costs of owning and leasing the real property subject to the lease. Consistent with CCRA's general policy concerning additional rent, payments that meet the following conditions will generally be regarded as consideration for the supply of the subject property by way of lease under the Ground Lease (and thus subject to GST in accordance with ruling #1):

•   the Land-owner, as lessor, is liable for the payment (either solely or jointly);

•   the payment is passed on to the Developer, as lessee, under the Ground Lease; and

•   the payment can reasonably be regarded as relating to the lessee's right to use the real property.

In accordance with this policy, the only consideration payable for the lease of the subject property under the Ground Lease (other than the base rent) is the Developer's requirement under XXXXX the Ground Lease to pay taxes that are levied by a government or other taxing authority against the Land-owner (or other lessor to whom the Ground lease has been assigned or transferred).

The payments XXXXX required to be paid by the Developer to the Land-owner pursuant to XXXXX the Ground Lease (referred to as "milestone payments") are not consideration for the supply of real property or for any other supply. Rather the milestone payments are the result of the Developer's breach of the Development Agreement and of the Ground Lease. Where the Ground Lease is an agreement for a taxable supply of property in Canada at the time the breach occurs, section 182 will deem the milestone payment, in part, to be a tax-included payment for the supply. The amount of the milestone payment that will be subject to section 182 will be in proportion to the rent reasonably attributable to the taxable supply under the Ground Lease at the time of the breach.

For example, if XXXXX the breach giving rise to the milestone payment occurred in Period I and at the time of the breach XXXXX % of the rent payable under the Ground Lease was reasonably attributable to the making of the taxable supply of the Retail Portion, then XXXXX % of the milestone payment will be subject to section 182. Whereas if the breach occurs in Period II, XXXXX % of the milestone payment will be subject to section 182.

4. Land-owner entitlement to ITCs in respect of supplies made under the Ground Lease

The Land-owner will be entitled to input tax credits (rather than the 50% PSB rebate as a XXXXX) in respect of supplies of property and services that it acquires or imports for consumption, use or supply in relation to the supply of real property under the Ground Lease which is not an exempt supply.

Generally, where the Land-owner acquires or imports property or services for the purpose of improving the subject property, it will be entitled to claim input tax credits (ITCs) based on the extent (expressed as a percentage) to which the Land-owner held the subject property for use (including the leasing of the subject property) in the course of its commercial activities immediately after the property was last acquired by the Land-owner. These ITCs are claimable by the Land-owner in accordance with paragraph 169(1)B(b).

Also, the Land-owner will be eligible to claim ITCs in respect of property or services acquired or imported not for the purpose of improving the subject property but otherwise in the course of or in connection with making taxable supplies of the subject property by way of lease (e.g. taxable operating costs arising from owning or leasing the subject property). The Land-owner will be entitled to claim ITCs on taxable operating costs to the extent (expressed as percentage) that such costs were incurred in relation to taxable supplies made under the Ground Lease, in accordance with paragraph 169(1)B(c).

For example, assume the Land-owner paid $XXXXX for the acquisition of taxable inputs during Period I, partly for use in improving the subject property and partly for other purposes related to owning and leasing the subject property, and paid $XXXXX in GST for such taxable inputs. Also, assume that the subject property was last acquired by the Land-owner for use as capital property in commercial activities to the same extent as under Period I of the Ground Lease, which, for purposes of this example, is assumed to be XXXXX % of the total use of the subject property. Finally assume that of the $XXXXX in consideration paid for taxable inputs, $XXXXX (or XXXXX % of the total consideration) would be included in determining the adjusted cost base to the Land-owner if the Land-owner were a taxpayer under the Income Tax Act.

In this case, the tax payable in respect of taxable inputs acquired by the Land-owner for the purpose of improving the subject property would be deemed to be equal to $XXXXX in accordance with subsection 169(1.1). The Land-owner would be eligible to claim an ITC equal to $XXXXX under paragraph 169(1)B(b). Also, the Land-owner would be entitled to claim ITCs in respect of the GST paid on operating costs of $XXXXX to the extent that such costs where incurred for the purpose of making taxable supplies (i.e. the lease of the Retail Portion) under paragraph 169(1)B(c). Note that the percentages used in calculation of ITCs under paragraph 169(1)B(c) may not be the same as those used under paragraph 169(1)B(b). In either case, the method of determining the extent to which properties or services are acquired for use in commercial activities must be fair and reasonable and used consistently throughout the year in accordance with subsection 141.01(5).

Refer to ruling #1, above, for other examples of the Land-owner's ITC entitlements during Periods I, II and III of the term of the Ground Lease.

5. Land-owner's or Developer's obligation to remit GST under the self-supply rules in section 191 of the ETA

(a) The Land-owner is not required to remit GST under the self-supply rules in respect of the subject property as a result of the Ground Lease or any of the Proposed Transactions.

(b) The Developer is not required to remit GST under the self-supply rules in subsection 191(1) in respect of a Residential Unit where its first supply of the Unit is by way of assignment. Also, an interim occupancy that occurs under Proposed Transaction (3) will not trigger self-supply under subsection 191(1).

(c) The Developer will be required to self-supply in respect of a Residential Unit under subsection 191(1) where the first supply of the Residential Unit is by way of sub-lease (other than the interim occupancy arising under Proposed Transaction (3)) for use as an individual's place of residence and that individual is the first individual to occupy the Unit as a place of residence after its construction is substantially complete. In this case, the Developer will be deemed to have made and received a taxable sale of the particular Residential Unit at the later of the time the construction of the Residential Portion is substantially complete and the time possession is first given under the interim occupancy arrangement, referred to above. The Developer will be deemed to have collected and paid GST calculated on the fair market value of the Residential Unit at the time of the deemed taxable sale.

(d) The Developer will also be required to self-supply in respect of a Residential Unit under subsection 191(2) where: the Developer gives possession of the Residential Unit to a Purchaser under an Agreement of Purchase and Sale prior to the registration of the declaration and description; the Purchaser is the first person to occupy the Unit as a place of residence after substantial completion of the construction of the Residential Portion of the subject property; and the Agreement of Purchase and Sale is terminated for any reason other than by performance of the Agreement. In this case, the Developer will be deemed to have made and received, at the time the Agreement is terminated, a taxable sale of the Residential Unit. The GST treatment arising from self-supply under subsection 191(2) will otherwise be the same as that described in (7) above.

6. Other GST Issues applying to the Land-owner or the Developer

(a) GST treatment of Developer's supplies of Residential Units

Where the Developer's first supply of a Residential Unit is by way of assignment, this supply will be a taxable sale of real property for GST purposes. The Purchaser will be required to pay and the Developer will be required to collect GST on the full consideration payable by the Purchaser for the sale of the Residential Unit under the Agreement of Purchase and Sale.

Also where the Developer's first supply of a Residential Unit is an interim occupancy arrangement under Proposed Transaction (3) the Developer will be considered for GST purposes to have made a taxable sale of the Residential Unit at the time possession of the Unit is first given. The GST treatment will be as described above.

The Developer's supply of Residential Units by way of sub-lease (other than where the sub-lease arises under or as a consequence of an agreement of purchase and sale) will be an exempt supply under section 6 of Part I of Schedule V to the ETA.

(b) Purchaser's entitlement to New Housing Rebates under section 254 of the ETA

A purchaser will qualify for a new housing rebate (NHR) under subsection 254(2) with respect to the GST paid on the taxable assignment of a Residential Unit, provided the other conditions of subsection 254(2) are met. Since one of the conditions in the calculation of a NHR is that the total consideration for the assignment (i.e. sale of the Residential Unit) not exceed $450,000, purchasers of Residential Units could potentially be entitled to new housing rebates in respect of XXXXX of the XXXXX Residential Unit sales sold. In addition, NHRs determined under subsection 254(2) may be transferred to the Developer subject to the requirements set out in subsection 254(4).

Note, however, if the Purchaser first enters into an interim occupancy arrangement arising under an Agreement of Purchase and Sale, the Purchaser will not be entitled to a new housing rebate, subject to meeting the other conditions of subsection 254(2), until ownership of the leasehold is transferred (i.e. assigned) to the Purchaser.

(c) Land-owner's entitlement to rebates under section 259 of the ETA

GST payable by the Land-owner that is included in the "non-creditable tax charged", as defined in subsection 259(1), is eligible for a public services body rebate at the prescribed rate of 50% in accordance with subsection 259(3) of the ETA.

This ruling is given subject to the limitations and qualifications set out in section 1.4 of Chapter 1 of the GST/HST Memoranda Series. We are bound by this ruling provided that none of the above issues is currently under audit, objection or appeal; that there are no relevant changes in the future to the Excise Tax Act, or to our interpretative policy; and that you have fully described all the necessary facts and transactions for which you requested a ruling.

Should you have any further questions or require clarification on the above matter, please do not hesitate to contact me at 613 954-8852.

Yours truly,

Daryl J.A. Hooley
Real Property Unit
Financial Institutions & Real Property Division
Excise and GST/HST Rulings Directorate