Rights of First Refusal – give them the attention they deserve

AS PREVIOUSLY PUBLISHED IN THE RURAL VOICE:  

In the real estate world, a Right of First Refusal (“ROFR”) creates an opportunity for the holder of the right to match an offer made to purchase a property – it’s a “sort of” option to purchase that will arise in the future under certain circumstances.  In the most common scenario, the owner of the property has an obligation to offer the property for sale to the holder of the ROFR when the owner receives a bona fide third-party offer to purchase and intends to accept the offer.  The holder of the ROFR can then choose to match the terms of the third-party offer and purchase the property.  If the holder of the ROFR doesn’t choose to match, the ROFR will in most cases be exhausted.

A ROFR is commonly created through agreement between the owner of a property and the person to whom the right is granted.  Often the ROFR will be given back to a vendor in a property transaction.  The vendor sells the property to the purchaser, but the purchaser agrees that the vendor will have a ROFR to re-purchase the property if the purchaser decides to sell.  This ROFR is not a true option to re-purchase that can be exercised by the vendor at its discretion.  Instead, the purchaser (the new owner of the property) must first decide to sell the property, which gives rise to the obligation to offer it for sale to the vendor (the previous owner of the property).

Sometimes the ROFR will be granted in a detailed and lengthy stand-alone agreement prepared by the parties’ lawyers.  Probably more often than not, though, the ROFR is an afterthought thrown into the schedule of additional terms attached to an Agreement of Purchase and Sale.  Does a statement as simple as “Vendor will have the first right of refusal to purchase the property from the Purchaser” create an enforceable ROFR?  Maybe. Maybe not.  A judge being asked to enforce the ROFR would need to “read into” the agreement one or more implied terms: that the Purchaser must present the Vendor with any offer the Purchaser is prepared to accept and that the Vendor would then have an opportunity to match the offer, the Vendor’s right to be exercised, as stated by the Court of Appeal for Ontario in one decision, “in a reasonable time given the circumstances that exist when the offer is made.”

The enforceability of the ROFR is of most importance to the party who is granted the right, so that party would be well-advised to take the time to craft an agreement that won’t depend on the Court’s willingness to infer the existence of unwritten terms.  At a minimum, the ROFR should spell out that when the property owner receives an offer to purchase the property that the owner is prepared to accept the owner must notify the ROFR holder of the offer and its terms.  And the ROFR should provide clear direction to the ROFR holder on how to exercise the right and within what period of time the right must be exercised.  The ROFR holder may also want impose conditions on the terms of third party offers that may be considered by the property owner so that the owner doesn’t use unreasonable terms such as excessively high deposit amounts or very short closing dates to render the ROFR impossible for the right holder to exercise.

This should probably go without saying, but an agreement for a ROFR should always be made in writing.  In Ontario, legislation called the Statute of Frauds, R.S.O. 1990, c. S-19 provides the following:

No action shall be brought to charge any executor or administrator upon any special promise to answer damages out of the executor’s or administrator’s own estate, or to charge any person upon any special promise to answer for the debt, default or miscarriage of any other person, or to charge any person upon any contract or sale of lands, tenements or hereditaments, or any interest in or concerning them, unless the agreement upon which the action is brought, or some memorandum or note thereof is in writing and signed by the party to be charged therewith or some person thereunto lawfully authorized by the party.

Generally speaking, contracts for the sale of land must be in writing to be enforceable.  One exception to that rule is the equitable doctrine of part performance.  If it can be shown that an oral contract was made and that part of the contract was performed by the parties, then the Court may find the contract is enforceable in spite of the Statute of Frauds.  As stated in the decision of the Court of Appeal in Erie Sand & Gravel Ltd. v. Seres’ Farms Ltd.:

The purpose of s. 4 of the Statute of Frauds is to prevent fraudulent dealings in land based on perjured evidence. However, Equity will not allow the Statute of Frauds to be used as an "engine of fraud". It created the doctrine of part performance to prevent the Statute of Frauds from being used as a variant of the unconscionable dealing which it was designed to remedy: see Hill v. Nova Scotia (Attorney General) [1997] 1 S.C.R. 69, at para. 10. The requirements in s. 4 of the Statute of Frauds must give way in the face of part performance because the acts of part performance fulfill the very purpose of the written document - that is, they diminish the opportunity for fraudulent dealings with land based on perjured evidence.

In the ROFR scenario, if the party seeking to enforce an oral ROFR has performed some act under the agreement in reliance on the existence of the ROFR (such as the provision of services), the Court may support the ROFR.  However, nothing should be taken for granted.  If you want a ROFR, do it right.

Buyer (and Seller) Beware! HST on the Sale of Land

AS PREVIOUSLY PUBLISHED IN THE RURAL VOICE:  

The HST is a potential landmine for real estate solicitors and, consequently, their clients.  In Ontario, the 13% surcharge for the Harmonized Sales Tax applies to all real estate transactions unless the transaction is exempt.  The default position in the Excise Tax Act is that HST will be added to the cost of a transaction and lawyers and their clients should assume that to be the case unless they can show definitively that an exemption applies – that the transaction is an “exempt supply” within the meaning of the Act.

On a real estate transaction, collection of HST and remittance of the tax to the CRA is normally the responsibility of the vendor.  Where HST is payable, CRA will deem HST to have been collected by the vendor.  That’s the landmine: even if the vendor didn’t collect HST, the vendor is deemed to have collected it and must immediately pay the amount owing to CRA.  Therefore, the question of whether HST is “included in” the purchase price or is “in addition to” the purchase price in a deal between vendor and purchaser can be vitally important.  In some cases, a vendor may agree that HST is “included in” the purchase price based on an understanding that no HST is payable.  If it turns out that HST is payable, then the vendor’s anticipated recovery on the sale could come up 13% short.

While there are a number of HST exemptions that can apply to the sale of farmland such as sales by an individual to a related person and sales by a partnership, trust or corporation to a partner, beneficiary, shareholder or related person, situations do arise where HST is payable.  In a case recently decided by the Superior Court of Justice, a vendor and purchasers sued and counter-sued each other over the way HST was handled in the sale of a mixed-use property after CRA reassessed the HST amount after the transaction closed. 

The vendor agreed to sell the purchasers a 14.7-acre property containing a house and equestrian centre.  The purchase price was $1.285 million.  The parties used the standard Ontario Real Estate Association (“OREA”) Form 100 Agreement of Purchase and Sale and agreed that if HST was payable on the transaction, it would be “included in” the purchase price.  As none of the parties to the transaction was an HST registrant, the vendor was responsible to collect and remit any HST payable.  The residential portion of the property was not subject to HST, being exempt as used residential property.  The commercial/agricultural portion of the property was subject to HST.  The vendor and purchasers agreed that 30% of the property would be considered subject to HST, meaning $45,500 would need to be remitted to CRA.  The net purchase price would therefore be $1,239,500.  After closing, the vendor remitted the HST to CRA and received a Notice of Assessment showing no balance owing.

Before closing, the purchasers’ lawyer had communicated to the vendor that the purchasers intended to use the property for residential purposes.  However, the purchasers did not move into the property after closing and instead leased the equestrian part of the property to a commercial tenant and the residential part of the property to a residential tenant.  One of the purchasers then applied to CRA to be registered for HST and also requested input tax credits for the HST paid on the purchase of the property.  She mistakenly asked for credits based on HST being payable for the whole purchase price (i.e. the entire property) rather than just the non-residential portion.

CRA then looked into the situation and reassessed the HST payable on the original sale transaction.  CRA disagreed with the allocation of the purchase price as between the exempt residential portion and the non-exempt commercial/agricultural portion, finding that the commercial/agricultural portion represented 78% of the sale price.  The HST payable for the taxable portion of the property was $130,466.88 rather than the $45,500 that had been remitted by the vendor to CRA.

Where a purchaser is registered for HST, the vendor is not required to collect HST generated by the sale of farmland.  The purchaser reports the HST payable and claims an offsetting input tax credit in the purchaser’s first HST return after the sale, which is what the purchaser in this recent case did.  The problem from the vendor’s point of view was that, had she known that the purchaser would be an HST registrant (which is not what was understood at the time the transaction closed), she would not have had to collect HST and would have kept the full purchase price without the $45,500 deduction.  The vendor sued the purchaser to recover that amount.

The vendor later discontinued her claim because CRA refunded the $45,500 to the vendor on the basis that the purchaser (one of the two joint purchasers) was now registered for HST.  However, the purchasers continued their counterclaim against the vendor arguing that they had suffered the loss of the $45,500 price adjustment on the sale; effectively, the purchasers contended that they had only agreed to pay the vendor $1,239,500 for the property plus any HST payable.  If no HST was payable, then the vendor should refund them $45,500. 

The Superior Court dismissed the counterclaim, finding that the purchasers suffered no loss.  The purchasers agreed to pay $1.285 million for the property and only paid that amount.  The purchaser who was registered for HST received input tax credits for the full amount of any HST that had been paid and suffered no financial loss.  

Read the decision at: 2022 ONCS 919.

Built on your neighbour's property? All may not be lost.

AS PREVIOUSLY PUBLISHED IN THE RURAL VOICE:  

Everyone knows that you should not cut trees down on your neighbour’s property without permission.  You also shouldn’t build structures on your neighbour’s property without permission.  In fact, even with a neighbour’s permission it wouldn’t seem to make much sense to build a structure that is located in whole or in part on your neighbour’s property.  Fixtures to the land belong to the owner of the land.  Why build a structure that you don’t fully own?

Sometimes, though, structures are built which unintentionally encroach on a neighbour’s property.  The exact boundary lines between properties may not be apparent; without having a surveyor identify a boundary line, mistakes can be made.  In some cases, the property owner having the structure built is mistaken about the actual location of the property boundary.  In some cases, the mistaken understanding of the location of the boundary is shared by both neighbouring owners.  Think of an old boundary fence that has always been there – it’s just that it was never actually on the boundary. 

When some encroachments are discovered, the answer is simply to move the encroaching structure.  But there are some structures which cannot be easily moved or cannot be moved without great expense.  What then?  The structure that is encroaching on the neighbour’s property may have been in place for many decades.  Perhaps it is a house that was built long ago in the wrong position.  It may be that the current legally recognized property boundary is incorrect and based on a historical mistake and an order from the Court or the Director of Land Titles can be obtained to correct the boundary. 

There might also be a case for adverse possession.  Depending on how long the structure has been in place, the owner of the structure might actually have obtained legal ownership of the land beneath the structure through the process of adverse possession.  Where a person has possessed someone else’s land continuously for a period of ten years or more with the intention of excluding the registered owner (or other persons entitled to possession of the land), the ownership interest of the registered owner may be extinguished and lost to the person actually in possession.  The acts of possession must be “open, notorious, peaceful, adverse, exclusive, actual, and continuous having regard to the nature of the disputed property.”  Building a house or other building on land and having exclusive occupation of it could very well meet the requirements for adverse possession.

However, adverse possession cannot arise once property becomes part of the Land Titles system of land registration.  In Ontario, most properties are now part of that system.  While it is still possible that adverse possession could have taken place prior to the date when a property became part of the Land Titles system (if more than ten continuous years of adverse possession were by then completed), no adverse possession of lands after that date will be effective to extinguish the ownership interest of the registered owner in favour of the encroaching party.

So what happens if you accidentally build your structure on your neighbour’s property and adverse possession is not an available solution?  What if your neighbour won’t agree to sell you the land or enter into an encroachment agreement with you?  There may be another fix available.  In a case recently decided by Madam Justice Doyle of the Superior Court of Justice, owners whose garage was accidentally constructed in part on the neighbours’ property were granted an order entitling them to the encroachment lands upon payment to the neighbours of $18,500.  The order was made pursuant to Section 37(1) of the Conveyancing and Law of Property Act, which provides:

Where a person makes lasting improvements on land under the belief that it is the person’s own, the person or the person’s assigns are entitled to a lien upon it to the extent of the amount by which its value is enhanced by the improvements, or are entitled or may be required to retain the land if the Superior Court of Justice is of opinion or requires that this should be done, according as may under all circumstances of the case be most just, making compensation for the land, if retained, as the court directs.

The circumstances of the case before Justice Doyle arose from an unfortunate error.  Prior to 2006, the owners of what became two adjoining lots built a garage on one of the lots.  In the summer of 2006, those owners sold one lot to one purchaser and the other lot to another, but it was discovered before closing of the transactions that the garage on the one lot encroached onto the other lot.  The owner-vendors fixed the situation by tearing down the portion of the garage that crossed the property boundary.  Unfortunately, as was discovered in 2015 when the garage lot owners decided to sell their lot, the tear down in 2006 didn’t go far enough – the parties were wrong about the actual location of the property boundary.

By 2015, the cost of tearing down the garage and rebuilding it entirely within the lot where it was supposed to be located was understood to be more than $117,000.  Justice Doyle granted the order requested to retain land under the Conveyancing and Law of Property Act because the garage lot owners had an honest belief that the land being encroached upon was theirs and they had made a “lasting improvement” to the land (something “not easily removable”).  The significant cost quoted for the removal of the garage satisfied the “lasting improvement” requirement.

Justice Doyle determined that the “balance of convenience” was in favour of the garage owners to permit them to retain the encroached land in part because there was no evidence showing that the value of the neighbours’ property would be decreased by the conveyance of the area of the encroachment.  Based on appraisal evidence as to the per square foot value of comparable land, the price for the land was set at $18,500.

Read the decision at: 2022 ONSC 105.