29 January 2004 GST/HST Ruling 41974 - Whether the Construction of a Particular Addition and Renovation to a Single Family Home Constitutes the Construction of a New Single Unit Residential Complex

Please note that the following documents, although correct at the time of issue, may not represent the current position of the Agency. / Veuillez prendre note que ces documents, bien qu'exacts au moment émis, peuvent ne pas représenter la position actuelle de l'Agence.

Dear XXXXX:

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

All legislative references below are to Part IX of the Excise Tax Act.

Statement of Facts

Based on your two letters and a telephone conversation between Costa Dimitrakopoulos of our office and XXXXX of your office XXXXX, our understanding of the facts, the transaction(s), and the purpose of the transaction(s) is as follows:

1. XXXXX ("the Corp") incorporated in XXXXX. It is a GST/HST Registrant XXXXX.

2. XXXXX it purchased a single family home at XXXXX (the "subject property") for $XXXXX. The purpose of acquiring the subject property was to renovate and sell it. The subject property is a single unit residential complex for purposes of the GST/HST.

3. The Corp registered for the GST on the understanding that the renovation project would be a substantial renovation for GST purposes, resulting in an eventual taxable sale of the property. It claimed input tax credits (ITCs) totalling $XXXXX.

4. The renovations and additions, costing about $XXXXX, are described in the Appendix. This amount represents construction costs. Other fees totalled over $XXXXX. These are not specified but presumably include realtor fees, legal fees and engineering fees. The ITC claim of $XXXXX indicates total taxable inputs of about $XXXXX.

5. After completing the renovations, the subject property was sold for $XXXXX. On the basis of the Corp's revised view that the renovations were not substantial renovations, the property was sold on an exempt basis.

6. The Corp was incorporated for the purpose of acquiring the subject property, renovating it and then selling it as an isolated event. The Corp will not be acquiring any further properties.

Ruling Request

In your letter XXXXX you asked whether the "construction of a particular addition and renovation to (this) single family home constitute the construction of a new single unit residential complex?" The letter also requests our "direction on how to proceed at this point."

In response, our ruling will address the various tax implications resulting from the renovation and sale of the subject property.

Ruling Given

Based on the facts set out above, we rule that

1. The subject property was not substantially renovated pursuant to the meaning of "substantial renovation" in subsection 123(1).

2. The renovations and additions to the subject property do not constitute construction of a new residential complex.

3. The sale of the subject property is an exempt sale for GST/HST purposes.

4. The Corp is not liable for tax pursuant to section 192.

Explanation

Ruling 1

The subject property was not substantially renovated pursuant to the meaning of "substantial renovation" in subsection 123(1).

"Substantial renovation" is defined in subsection 123(1) as follows:

"substantial renovation" of a residential complex means the renovation or alteration of a building to such an extent that all or substantially all of the building that existed immediately before the renovation or alteration was begun, other than the foundation, external walls, interior supporting walls, floors, roof and staircases, has been removed or replaced where, after completion of the renovation or alteration, the building is, or forms part of, a residential complex.

In summary, a substantial renovation is generally considered to have taken place where all or substantially all of the interior of a building, with the exception of certain structural components (the foundation, external walls, interior supporting walls, roof, floors and staircases), has been removed or replaced. The definition of substantial renovation sets out various requirements to be met before a residential complex will be considered substantially renovated. These requirements are discussed below.

"all or substantially all"

Generally, "all or substantially all" is interpreted as meaning 90% or more. Accordingly, in order to meet this requirement, at least 90% of the building that existed before the renovations began must be renovated to some minimum degree. This determination applies to the interior of the building.

Any fair and reasonable method is acceptable for determining whether all or substantially all of the building has been renovated. The following are typical methods, which may be used for this purpose:

•   Square footage of floor space of the areas renovated compared to the total floor space of the building

•   Square footage of floor and wall space of the areas renovated compared to the total floor and wall space of the building; and

•   Number of room renovated compared to the total number of rooms in the building.

The method used must be fair and reasonable in the circumstances.

Please note that neither the cost of the renovations nor the fair market value of the improvements made is an acceptable basis for determining whether the "all or substantially all" requirement is met. This requirement is based on the actual physical renovations to the building rather than the cost or value of such renovations.

"of the existing building"

As the definition stipulates, it is the "building that existed before the renovation or alteration was begun" that must be substantially renovated. This means that additions to the existing building are not taken into account in determining whether there is substantial renovation.

Only habitable areas of the building should be taken into account in determining whether the building has been substantially renovated. In addition to the main floor(s) living areas, habitable areas include finished basements and finished attics. Habitable areas do not include garages, parking areas, crawl spaces, and any areas set aside for the placement of equipment for the heating of, or the supply of water, gas, or electricity to the complex. Such areas are ignored in determining whether the minimal requirements of the definition of substantial renovation are met.

must be "removed or replaced"

This requirement addresses the type or nature of renovations required in order to satisfy the definition of substantial renovation. Under the definition, at least 90% of the existing building must be removed or replaced with the exception of the foundation, external walls, interior supporting walls, floors, roof and staircases.

A major renovation project would result in the interior of the building being essentially gutted. In this type of renovation, the interior walls (other than supporting walls) would be completely removed and the ceilings and floors would be replaced. The heating, electrical and plumbing systems would be replaced, including the ductwork, wiring and plumbing connections. All fixtures, including plumbing and lighting fixtures and fixed appliances, would be replaced, as would kitchen counters and cabinets. Such a project would constitute a substantial renovation.

While not all projects have to be as extensive as the one project described above in order to constitute a substantial renovation, generally all interior walls (e.g., drywall) together with either ceilings or floors would have to be removed or replaced throughout the subject area (at least 90% of the building).

"Removing or replacing" does not include repairing. For instance, patching drywall, painting surface areas, or sanding a hardwood floor would not qualify as removing or replacing for purposes of the definition of substantial renovation.

applying the definition of substantial renovation to the subject property

In accordance with the definition of "substantial renovation" in subsection 123(1) and our discussion set out above, an analysis of the changes made to the subject residence was carried out. Please refer to the attached Appendix.

As indicated in the Appendix, and based on the information submitted, it is our view that approximately XXXXX% of the house was substantially renovated. Furthermore, since the threshold for "substantial renovation" is "90% or more," (i.e., 90% of the existing house, other than areas excluded in the definition, must be "removed or replaced") and the present determination is about XXXXX%, it is evident that the "substantial renovation" threshold is not met with respect to the subject property.

Ruling 2

The renovations and additions to the subject property do not constitute construction of a new residential complex.

In certain cases, the renovations and addition to an existing residence are so significant that the resulting structure may be viewed as a newly constructed residential complex. This is a test of more than just size. That is, even if the addition is as large or larger than the existing residence, it would not be viewed as creating a newly constructed residential complex if the existing residence remains largely intact. Rather, the existing residence must become a minor part of, and be incorporated into, the newly constructed residential complex.

Generally, the following has to occur before the resulting structure can be considered a newly constructed residential complex:

•   the addition should at least double the size of the habitable areas of the existing residence; and

•   the existing residence must cease to exist both physically and in the manner in which it had functioned as a residential unit, and must become integrated, along with the addition, into what is essentially a new residential complex.

As in the case of substantial renovation, the cost or fair market value of an addition is not to be used in determining whether a new residential complex has been constructed.

In our view the additions to the subject property in this case do not meet the requirements above since the additions do not double the space of the existing premises and it cannot be said that the existing residence ceases to exist on the basis that it is completely subsumed by the additions.

Ruling 3

The sale of the subject property is an exempt sale for GST/HST purposes.

Since the residence was neither constructed nor substantially renovated by the Corp, the Corp is not a "builder" as defined under subsection 123(1) with respect to the residence. Accordingly, the relevant exemption to examine is paragraph (a) of section 2 of Part I to Schedule V.

In summary, the above provision provides for an exemption from the GST on the sale of the residential complex by a person (which includes a corporation) who is not a builder unless the person claimed an input tax credit (ITC) with respect to the acquisition of or improvements to the property.

While the Corp did claim an ITC with respect to the improvements (renovations and additions) made, it is our view, that the Corp must be entitled to an ITC before this paragraph applies. Furthermore, we would not accept that this exemption does not apply solely by virtue of the ITC claimed unless the property was used in making taxable supplies.

In other words, a person who is not a builder cannot choose to "opt out" of this exemption (thereby making the sale of a residential complex taxable) simply by claiming an ITC with respect to an improvement to the property. Rather, for the exemption not to apply, the person must be entitled to ITCs on the basis that the property was used at least partially ("primarily" in the case of individuals) in making taxable supplies, such as short-term rentals. Since this does not appear to be the case, the exemption under section 2 of Part I of Schedule V applies to the sale of the residence, as the Corp was not entitled to the ITCs it had claimed.

Ruling 4

The Corp is not liable for tax pursuant to section 192

Section 192 applies where, in the course of a business (Section 192 does not apply where a person is making supplies of real property in the course of an adventure or concern in the nature of trade.) of making supplies of real property, a person acquires and renovates a residential complex and the renovation of the complex is not considered to be a substantial renovation for GST/HST purposes.

Under this section the person carrying out the non-substantial renovation is deemed to have made a taxable supply for consideration equal to certain costs associated with the renovation, and is liable to remit GST/HST with respect to the amount of such costs. In summary, and pursuant to the terms of the provision, the costs upon which GST/HST apply are in respect of the renovation or alteration for amounts that would be included in the renovator's adjusted cost base for income tax purposes if the residential complex were capital property of the taxpayer. They are not in respect of financial services, and most significantly, they are not for property or services on which GST/HST was paid by the renovator.

In the present case, the Corp did not substantially renovate or construct a new residential complex. It did, however, carry out a non-substantial renovation of the residence. Nevertheless, in order for section 192 to apply, the Corp would have to be carrying out the non-substantial renovation of the residence in the course of a business.

Where real property originally acquired with a primary or secondary intention of resale is sold, and activities were undertaken with respect to the sale of the property, the extent of such activities is important in determining whether the character of the sale has changed from having been made as an adventure or concern in the nature of trade to having been made in the course of a business. Where the buying and selling of the real property are isolated events or are done infrequently, where such events are not connected to other activities of a business carried on by the supplier, and where the activities are minimal or are required solely for purposes of facilitating the sale, the sale of the property is normally treated as having been made as an adventure or concern in the nature of trade. (For more information regarding business vs. adventure or concern in the nature of trade please refer to Appendix C of GST/HST Memorandum Chapter 19.5, Land and Associated Real Property (attached))

Given that the buying and selling of the subject property by the Corp is an isolated event in this particular case and assuming there are no other indicators of a business enterprise carried on, (For instance, it is assumed for the purpose of this ruling that the Corp did not engage in extensive marketing or advertising activities with respect to the subject property.) it is our view that the sale of the subject property was made as an adventure or concern in the nature of trade. Accordingly, section 192 of the Act would not be applicable to the costs of any renovations described above (e.g., on "non-taxable inputs).

This ruling is subject to the general limitations and qualifications outlined 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 necessary facts and transaction(s) 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 954-8852.

Yours truly,

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

APPENDIX

Renovations and Additions to the House

Entry Level

1. Existing shower and sauna removed and area converted into a study - removal of existing shower and sauna. Some old walls removed, some new walls added to substantially all of this area. Installation of two new French doors and a new dropped beam.

This area of 180 sq ft. appears S.R (S.R. stands for renovated to a sufficient degree to meet the requirements for substantial renovation discussed above. )

2. Ski room, existing storage area and entry: some changes (couple of new doors, small balustrade, part of exterior wall removed for new bay window)

This area of 170 sq. ft appears not S.R

Mid Level

4. Two existing bedrooms and bathrooms remain essentially unchanged.

This area of 660 sq. ft. appears not S.R.

5. Existing 680 sq ft of crawl space converted into a new media room. Existing rock was removed from the crawl space area, steel beams replaced existing structural columns, and a new concrete slab floor was installed. Two new bathrooms and a wine cellar were built in this converted space. The bathrooms each have new windows and ventilation fans. (treated by submission as an addition but appears to be a renovation of existing area)

This area of 680 sq. ft. appears to be S.R.

6. New bedroom and covered deck to second level - 240 sq ft

Summary

Upper Level Renovations

7. Master bedroom: flat ceiling removed to expose vaulted ceiling two small walls in closet removed

Area including closet: 320 sq ft.

This area of 320 sq. ft. appears not S.R.

8. Ensuite: - remove & replace existing bathroom fixtures and cabinets

This area of 112 sq. ft. appears S.R.

9. Kitchen: - flat ceiling removed to expose vaulted ceiling a. 9 feet of existing exterior wall removed

- new addition expands kitchen area by about 44 sq ft.

b. new kitchen appliances and cabinets

Area excluding addition: 143 sq ft. appears may be S.R.

10. Dining room + Living room = Powder Room

- remove existing wet bar & cabinet (small area)

- some changes to ceiling Area: 540 sq. ft. not S.R.

Summary

Other Additions

New parking garage under the existing building - this was previously a crawl space - existing bearing structures removed, now steel beam installed, new 4" concrete floor slab - exposed (exterior) concrete walls faced with stone - new concrete stairs - this addition added 770 square feet. (ignored for present purposes: not habitable floor space).

Miscellaneous

Replacement of original light fixtures with new in the same locations.

Replacement of old hot water tank and furnace with new ones.

Repainting of original drywall walls and restaining/re-painting of interior wood trim and paneling.

Replacement of gravel driveway with paving stone driveway

Exterior trim repainted but main body of house left as existing and not repainted. Original windows unchanged except where bedroom/deck added.

Sewer, water and sanitary connections unchanged. Heating ducts, plumbing and electrical systems were extended to added bedroom/deck.

Percentage of house substantially renovated based on floor space

XXXXX