GST/HST on Additional Costs in Lease Agreements
The specifics of extra charges required of a lessee vary from lease agreement to lease agreement. Most lease agreements will stipulate a base rent and then expand on any additional amounts the lessee is responsible to pay such as certain cost reimbursements like property taxes.
Property taxes may be included as one of these additional costs in a lease agreement. This is arising more frequently as a means for landlords to pass down costs to the tenant. The lessor is typically legally responsible to remit payment for property taxes; however a lease agreement can stipulate payment of property taxes as an additional cost reimbursement responsibility of the lessee. The payment of property taxes by the lessee is normally paid to the lessor or landlord as a reimbursement of the landlord’s cost. Property taxes can also be paid by the lessee directly to the appropriate municipality.
Typically, payments for property (or business taxes) that are made to a municipality are not subject to GST/HST when made by the owner of the property. Commercial landlords and tenants often fail to consider any GST/HST considerations on this additional rent or may structure as a direct payment to the municipality to avoid payment of GST/HST.
In general, commercial rents are taxable for GST/HST purposes, provided the landlord is not a small supplier as defined under the Excise Tax Act (ETA). The treatment of additional rents in commercial lease agreements is often accounted for incorrectly. (GST/HST memorandum 19.4.1 on Commercial Real Property Sales and Rentals further expands on these taxability rules.)
Where the ETA reflects on additional rents, these rents take on the tax treatment of the base rent. For example, if the base rent is a commercial rent subject to GST/HST, any additional rents would also be subject to GST/HST as the additional rent is part of the total consideration for the supply. On the other hand, if the base rent was a residential rent not subject to GST/HST, any additional rents such as property taxes would retain that characteristic of the base rent and also be exempt from GST/HST.
In determining the taxability of property taxes paid by the lessee, paragraph 32 of GST/HST memorandum 19.4.1 provides some additional clarity.
Property and business taxes paid by the property owner to the municipality are generally not subject to GST/HST. The property owner includes an amount that represents a recovery of such taxes from the lessee either as part of the basic rent or as an additional rent in the lease agreement. Where a separate amount is paid by a lessee on account of property and business taxes, this amount is part of the consideration for the rental of the property, even if the lessee pays the amount directly to the municipality. Since the lessee’s payment is part of the consideration for a taxable supply, it is subject to GST/HST in the same way as the basic rent payable by the lessee. However, if the lessee is directly liable to the municipality or other entity for the payment of any such amount the GST/HST will not apply.
The essential factor in determining GST/HST taxability of additional lease costs comes down to determining who is legally liable to pay the cost reimbursement. Typically, any property taxes payments are legally the liability of the owner of that property whether or not the lessee has a legal liability to reimburse the lessor for this cost. And as seen in paragraph 32, this liability is not negated where the tenant remits payment directly to the municipality on behalf of the lessor.
It is beneficial to stipulate whether any extra charges in the lease agreement are considered additional rents for GST/HST purposes after considering legal liability of any specific extra costs to avoid confusion at the outset of the agreement.
The ETA has various rules that can be complicated to navigate where additional rents are concerned (including percentage rents, common area expenses, and certain cost reimbursements). Please reach out to one of our Commodity Tax Professionals if you need any assistance with this or any related matters.