FLIPPING YOUR PRE-SALE CONTRACT: What You Need to Know

As housing prices continue to rise, once again pre-sale strata units have become all the rage. In our previous blog, we alerted our readers to some of the risks that are associated with purchasing a property that has not been built, but what about the risks in assigning interests in those pre-sale condos?

An assignment occurs when the purchaser transfers their rights in the purchase contract to someone else before the completion date.

For clarity it is best to define the parties as they are used in legal practice:

Assignor:      is the original purchaser. The assignor is the person(s) assigning his/her interest in the contract.

Assignee:     is the new purchaser. The assignee is the person(s) who is being assigned the interest in the contract. The assignee is the person(s) who will ultimately be purchasing the property.

Developer:     is the Company who is building the new development.
Assigning, or as it has been more commonly called “flipping,” pre-sale units before completion continues to be a common occurrence in Vancouver despite the provincial government’s disingenuous attempts at reducing such transactions.

Is My Contract Assignable?

Most Developer’s purchase contracts in BC do allow for assignments subject to certain qualifications:
•    Written consent of the Developer;
•    Payment of an “assignment fee” to the Developer [which can range as high as 2%-3% of the original purchase price];
•    Usage of the Developer’s form of assignment (which makes the Assignor liable to complete the purchaser if the Assignee fails to do so);
•    The assignment usually cannot occur until all the original units in the development are sold (so as to preclude the Developer competing with his previous buyer).

Typically, the Developer will not withhold their consent so long as all these conditions are met and the Developer approves all materials used to market and list the unit.

As a side note, last year the BC government caused the standard BC Real Estate Contract for sales between individuals to contain a NO ASSIGNMENT clause (despite the fact that virtually no one assigns such contracts), but it refrained from doing so with pre-sale contracts which are routinely assigned!

Assignors

Typically, Assignors have only one thing on their mind when making an assignment, namely “how much profit will I make by flipping the property?”

With a completion date a year or more down the road, an Assignor usually stands to make a tidy profit in an escalating market –often a 100%-200% increase on their original deposit (courtesy of the concept of “leverage.”)

Needless to say, leverage cuts both ways and in a declining market like 2007-8, it was not uncommon to see the Assignor’s full deposit wiped out and a further contribution to the Assignee to “take the unit off of his hands.”
Once Assignors assign their interest, they can breathe a sigh of relief that they have no more obligations towards purchasing the property, right?

Wrong!

The Developer in consenting to the assignment, invariably does not release the Assignor from his or her original obligation to complete the purchase (if the Assignee fails to do so).

Developers prefer to be able to sue both the Assignor and the Assignee. However, if the Assignor finds themselves in the position of having to complete the contract, he or she will still have a remedy against the Assignee.
When flipping a property, Assignors should know that their obligations are not released until the day the Assignee completes and not a moment before.

Assignees

As an Assignee you should understand what the Assignment Amount is. Typically the Assignment Amount consists of:
•    Reimbursement of Deposits Paid to the Developer by the Assignor
•    Balance of the Assignment Amount
•    Assignment Amount [ i + ii ]
•    Total purchase price [ ii   +   original contract price ]

The Balance of the Assignment amount is sometimes referred to as the “Lift”. The Lift is what the Assignor is getting paid to assign the contract to the Assignee. When property values continue to rise, the Lift is typically a positive number. However, the Lift can be a negative number as well, such as in 2008 when properties were decreasing in value rather than increasing. Furthermore, in a market where properties are decreasing in value, the Assignor may run the risk of not getting the full deposit or any of it reimbursed in order for the total purchase price to be brought in line with the current market value of the property.

The Assignee in accepting the assignment, is taking on all the risks the Assignor had in buying a presale unit. This includes the risk that the pre-sale contract might never be completed or may be completed later and at a higher price that the Assignee will likely have to pay if he/she wants to complete. Also, depending on when the Lift was paid to the Assignor, any Lift or assignment fee may not be recovered.  The Assignee is also taking over the contract as is. There is no renegotiating the look or layout of the unit or price of the unit. The effect of the Assignment, is that the Assignee is standing in the shoes of the Assignor.

Accordingly, while the deposit can be reimbursed to the Assignor when the Developer agrees to the assignment, the Lift should only be paid when the Assignee completes the purchase.

Further Considerations:

There are many other issues to consider apart from the assignment price.

Residency of Assignor

If the Assignor is not a Canadian resident, then a holdback must be made by the Assignee under S.116 of the Income Tax Act.

GST may be payable by the Assignor, in which case the Assignee’s lawyer must hold it back and pay it, as the rules concerning payment of GST are reversed when dealing with a non-resident.

GST, if applicable should be payable on the Lift only, but we are in the midst of a file where Canada Revenue Agency is taking the position that it should be payable on the whole assignment amount.

GST

GST is typically paid on the original purchase price and often, on the assignment amount. The assignment amount usually includes GST. However, make sure you read the contract to make sure if that is in fact the case. With large transactions such as a home purchase it is always wise to get the opinion of a tax specialist or an accountant.

Property Transfer Tax

The Assignee is required to pay Property Transfer Tax on the original contract price plus the Lift rather than on the purchase price of the property.
The unexpected result may be that the original purchase price fell under the Property Transfer Tax threshold for “first time buyers” or “newly built construction” but with the Lift added, the Assignee may no longer qualify for these exemptions based on the higher fair market value.

An additional consideration if the Assignor is a non-resident, is the “anti-avoidance” provisions of the Property Transfer Tax Act which can result in very substantial fines if the PTT branch audits the assignment transaction and determines that it was made primarily to avoid the Foreign Buyers Tax.

Benefits

But with all of these risks there are some benefits in assigning a pre-sale contract. Let’s face it, sometimes life happens and it just doesn’t make sense for you to buy the property anymore. Assigning a contract enables the Assignor to realize the gain on the property without having to buy it (thus avoiding GST and PST on the purchase price) and getting his or her deposit back long before the completions date.

The moral of the Story

Assignment contracts are very complex.

We always recommend obtaining legal advice prior to entering into the contract so you are aware of the associated risks, tax consequences and the timing of the release of funds in advance.

Pre-sale assignments may delve into many fields: real estate law, GST, PTT, capital gains and Income Tax.

Trying to navigate that landscape on your own is not a good idea.

 

 

2018 (C) Pazder Law Corporation

Feel free to call us if you are buying or selling a pre-sale contract.

Kenneth Pazder (604) 682-1509 ext. 245

Melissa Valana (604) 682-1509 ext. 258

DISCLAIMER:  The foregoing is not legal advice.  It is presented for information purposes only. Always obtain professional advice before embarking on an assignment of a complex agreement like a pre-sale contract.

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