COURT FILES NO: 122/08 and 126/08

DATE: 2008-11-14

SUPERIOR COURT OF JUSTICE - ONTARIO

DIVISIONAL COURT

RE: MUNICIPAL PROPERTY ASSESSMENT CORPORATION, Applicant AND: CITY OF TORONTO, Applicant AND: BCE PLACE LIMITED, 1225209 ONTARIO LIMITED, NATIONAL TRUST COMPANY, SCOTIA REALTY LIMITED, FIRST PLACE TOWER INC., TORONTO DOMINION CENTRE, THE TORONTO DOMINION BANK, 200 BAY HOLDING INC., Respondents

BEFORE: KARAKATSANIS J.

COUNSEL: Carl B. Davis, Donald Mitchell, Susan Ungar, Diana Dimmer, W. Terrance Denison for the Applicants Richard Poole, David Fleet, Jeff Cowan, Phillip Sanford, Tara Piurko, for the Respondents

HEARD: October 28, 2008

ENDORSEMENT

[1] These are two motions made pursuant to section 43.1 of the Assessment Act, R.S.O. 1990, c. A.31, as amended (Act) for an order granting leave to the Municipal Property Assessment Corporation (MPAC) and to the City of Toronto to appeal the Interim Decision of the Assessment Review Board (Board) dated February 22, 2008 and amended on May 23, 2008. The decision concerned complaints made against the property tax assessments by the owners of the large office complexes in Toronto known as the Bank Towers (BCE Place, Royal Bank Plaza, Toronto-Dominion Centre, Commerce Court, First Canadian Place and Scotia Plaza) having a total 1999 assessed value of almost $5 billion. The two motions were heard together.

[2] Under the Act, land is assessed for the purposes of taxation under the Municipal Act, 2001, S.O. 2001, c. 25 Land, broadly defined, is assessed against the owner and the assessment of land is based upon its current value. Section 1 defines current value:

"current value" means, in relation to land, the amount of money the fee simple, if unencumbered, would realize if sold at arm's length by a willing seller to a willing buyer.

[3] The issue in the proceedings was the correct "current value" of the Bank Towers. Fundamental to the resolution of that issue was the proper interpretation of the definition of "current value" in section s.1 of the Act and, in particular, the meaning of the phrase "fee simple, if unencumbered". The Board acknowledged that many of the factual determinations were premised upon the Board's interpretation of 'current value'.

Leave to Appeal

[4] In granting leave the Court must be satisfied that:

(a) there is some reason to doubt the legal correctness of the Board's decision on a question of law; and

(b) the question of law is of sufficient importance to warrant the attention of the Divisional Court.

[5] The parties agree that the interpretation of the words "fee simple, if unencumbered" in the definition of "current value" is a question of law and that it raises issues of importance. Every property in Ontario must be assessed at its current value. The Board's interpretation of "current value" and, specifically, the phrase "fee simple, if unencumbered", calls into question MPAC's valuation of all commercial properties. As such, the issues raised on the proposed appeal transcend the interests of the present litigants and are of general public importance. The focus of the motion before me was whether there was some reason to doubt the correctness of the decision.

[6] I need not be satisfied that the decision is wrong, or even probably wrong. I must be satisfied that there is some reason to doubt the legal correctness of the Board's decision on a question of law.

The [Assessment Act](https://www.canlii.org/en/on/laws/stat/rso-1990-c-a31/latest/rso-1990-c-a31.html) and 'Current Value'

[7] Section 3(1) of the Act provides that "all real property is subject to assessment and taxation" (subject to certain exemptions that do not apply in this case). The terms "real property""land" and "real estate" are used interchangeably in the Act and "land" is broadly defined in section 1, including "all buildings, or any part of any building, and all structures, machinery and fixtures erected or placed upon, in, over, under or affixed to land".

[8] The Act was amended in 1997. Section 17(1) of the Act now states that land shall be assessed against the owner. The Act does not provide for separate assessments against tenants, other third parties, or against each individual owner. Section 19(1) of the Act requires that land shall be assessed at its current value. Current value is defined in s. 1 of the Act as follows:

"current value" means, in relation to land, the amount of money the fee simple, if unencumbered, would realize if sold at arm's length by a willing seller to a willing buyer.

[9] Prior to the amendments to the Act in 1997, the statute provided that land was to be assessed at its "market value", which was defined as "the amount that the land might be expected to realize if sold in the open market by a willing seller to a willing buyer" [Assessment Act, R.S.O., 1990, c. A.31, s. 19(2)].

[10] It is understood that the Act was changed in part to respond to the Ontario Court of Appeal decision in "Re Regional Assessment Commissioner, Region No. 11 and Nesse Holdings Ltd. et al. (1984), 1984 1857 (ON SC), 47 O.R. (2d) 766, (Div. Ct.); aff'd (1986), 1986 2497 (ON CA), 54 O.R. (2d) 437n (C.A.). In Nesse, the majority held that the sale price was the best indicator of the "market value" of the land, even if the sale price was lower as a result of leases that were not at current market rents but at below market rents. As a result of Nesse, property was assessed at actual market value rather than fair market value.

The Board's decision

[11] The Applicants submit that the Board erred in law in construing the definition of "current value" in section 1 of the Act, in particular the phrase "fee simple, if unencumbered", as defining the subject matter of assessment rather than as the standard of valuation for real property. They submit the Board erred in law in its interpretation of the word encumbrance as including all leases. The introduction of "fee simple, if unencumbered" was in response to Nesse, to assess land at fair market value as opposed to an actual market value; in other words, to ensure the assessment of commercial land was assessed to reflect market rents rather than leases that are not "current" market rents. MPAC and the City maintain that the phrase "fee simple, if unencumbered", read in the context of the definition as a whole and in the context of the Act and the municipal taxation scheme, means the highest value of the totality of interests in the land, unencumbered by any interests that diminish its value (for e.g. leases at below market rent).

[12] In its decision, the Board made final determinations on the legal issues that were before it. On the main issue, the Board accepted the Bank Towers' position that the words "fee simple if unencumbered" describe the legal interest in land which is to be valued and that forms the basis of the assessment of the land. Specifically, the phrase 'fee simple if unencumbered' requires that only the owner's interest in the land is to be valued; the tenant's interest in the land is not assessable as an owner's interest. Because land is assessed against the 'owner' and 'owner' does not include a tenant, and because a tenant's rights in a lease create personal property interests and not real property interests, the Board held that a tenant does not have an ownership interest in the fee simple or any participation in the ownership of the land. The tenants' interest in land is not assessable as an owner's interest and could not therefore be included in the valuation.

[13] The Board found that all leases create obligation upon the owners of the property and are therefore encumbrances, to be ignored for the purposes of valuation. Because the interpretation of the Board resulted in valuing an interest in land which does not in reality transact for the purposes of these buildings, the Board accepted that in order to determine the value of the interest in real property which the Act directs be valued, it was necessary to use a theoretical model to value the buildings as if vacant and untenanted with a 24-month lease-up period.

[14] The Board's evidentiary findings with respect to the calculation of market rent, the determination of the capitalization rate, the treatment of tenant improvements (in part) and the relevance of sales of the Bank Tower properties are inextricably linked to its interpretation of the Act, and in particular, the words "fee simple, if unencumbered" in the definition of "current value".

[15] All parties agreed that the Bank Towers were to be valued by an income approach to valuation – in other words the purchaser of such a commercial property is not seeking to acquire vacant possession of a fee simple interest.

There is some reason to doubt the correctness of the decision.

[16] The City and MPAC submit that the Board erred in its statutory interpretation by its emphasis on contrasting provisions of the Expropriation Act, an unrelated statute, and in its failure to consider the context of the entire Assessment Act, and the Municipal Act. The case law has consistently noted the relationship between these two Acts and that together they form a complete code for assessment and taxation in Ontario. [Zaidan Group Ltd. v. City of London (1990) 1990 2624 (ON CA), 71 O.R. (2d) 65 (Ont. C.A.), at pp. 67 & 69, affirmed 1991 53 (SCC), [1991] 3 S.C.R. 593.]

[17] The City submits that to rely upon a definition that requires a fictitious vacancy (with a 24 month lease-up period) as a model to determine current value is entirely inconsistent with the actual vacancy provisions of the Municipal Act 2001 (or the parallel provisions of the City of Toronto Act, 2006) that, in concert with the Assessment Act and their regulations, provide for tax reductions or rebates of commercial class property that are vacant or become vacant. [For example Municipal Act, 2001, ss. 308, 312, 313, 357 and 364 O. Reg 325/0, ss.1(1) & (2), 3, Assessment Act, supra, ss. 1, 7, 8, 14 and 39. O. Reg 282/98, O. Reg 282/98, ss. 1 & 5]. Furthermore, given that the definition of current value is predicated upon the sale price of the property in an arm's length sales transaction, which is in turn determined on the income generated by leases, and subject to a real vacancy allowance, the interpretation of current value essentially as a vacant commercial property – a property in distress - leads to an absurd result.

[18] Finally MPAC submits that the Board erred in finding that it "is the existence of the lease and its attendant restrictions that constitutes the encumbrance, not the lease's effect on the value of the property".

[19] In my view, these are arguable errors of law. Without finding that the decision is incorrect, or even probably incorrect, I am satisfied that there is some reason to doubt the correctness of the Board's interpretation of the meaning of "current value". While the Board held that only the owner's interest in fee simple was to be valued and that all leases were to be disregarded so that the building was valued as vacant but available for rent, an alternative meaning for 'fee simple, if unencumbered' and definition of 'current value' is arguable in the context of this particular Act and prior decisions of the court.

[20] The purpose of the Act is to provide objective and fair assessments of all real property in Ontario for taxation purposes so that comparable properties are assessed similarly. In the aftermath of the Nesse decision, it is clear that legislature was changed in part to avoid the situation where the exchange value of land and its buildings was lower than fair market as a result of leases at below market rents. Read as a whole, the definition of current value, in relation to land, is represented by price on an arm's length sale transaction, based upon the highest estate that may be held in a property, without regard to any encumbrances. The Board's focus on property rights and its definition of the interest to be valued in that sale transaction is not the interest that is transacted in a commercial property. In the context of an Act to assess the value of land (and its buildings) for the purpose of taxation, a definition of encumbrance as an interest in land that impacts on value, rather than upon legal obligations of the legal owner, is arguably preferable. The term 'encumbrance' is a general term of law without any classical or technical meaning and but takes its meaning from the context in which it is found. It includes an interest in land which diminishes its value. [See Wotherspoon v. Canadian Pacific Ltd., 1987 2807 (SCC), [1987] S.C.J. No. 40 at paragraph 100. Revenue Properties Co. v. Victoria University (1993), 1993 9432 (ON SCDC), 62 O.A.C. 351 at 360 (Div. Ct.).] The highest and best use of such commercial property is an income-producing property designed to be leased. The interpretation of the Board is not harmonious with the context of an Act that values property at its highest and best use for the purposes of taxation and is not consistent with the statutory property tax regime that provides special relief for commercial properties that are vacant or partially vacant. An interpretation that notionally imposes base building vacancy and a 24 month lease-up period is at odds with a definition based upon value in a sales transaction that is derived from the income from the leases on the property. In the context of an Act concerned with value, there is good reason to conclude that the current value of the owner's unencumbered fee simple interest, for a commercial property, is achieved when the land and buildings are valued at market rents.

[21] In the decision of Carsons' Camp v. Municipal Property Assessment Corporation, et al. (2008), 2008 ONCA 17, 88 O.R. (3d) 741, the Ontario Court of Appeal considered the definition of 'current value'. Although the nature of the tenant's interest in that case was an ownership interest in the permanent trailers, and not the tenant's interest in the lease, the Court nonetheless focused on the land, as broadly defined in the Act, as the subject of the assessment. The assessment against the registered owner of the underlying land was for administrative convenience. It seems to me that to the extent the Board determined that tenant improvements had no value because the property was valued as vacant, its decision may be inconsistent with the decision in Carsons' Camp.

[22] As well the Ontario Divisional Court decision in 1098748 Ontario Ltd v. Ontario Property Assessment Corporation, Region No. 11 et al., (2005), 2001 40233 (ON SCDC), 143 O.A.C. 121 at paras 20-22, 34-39 (Div. Ct.) (Agincourt Mall) suggests that the value of the owner's unencumbered fee simple interest will be achieved when the property is valued using market rents.

[23] The facts in Agincourt Mall were similar to Nesse. There had been a recent arm's-length sale of the subject property. The assessor had valued the property on the income approach using market rents. The appraiser for the taxpayer did a "leased fee" valuation of the subject property, using the below market leases. The Board preferred the evidence of the assessor as to the value of the property with a minor adjustment. The Divisional Court found that "both the assessor and the Board adopted an 'unencumbered fee simple' – or 'current value' – approach to the establishment of the market value assessment of the Mall". Because the tax years in question pre-dated the change in the legislation, the Court held that the Board erred in law and that pursuant to Nesse, the sale price, reflecting below market leases was 'market value' under the previous definition in the Act.. Justice Blair wrote:

In arriving at his value … for the Mall, Mr. Martino [the assessor] adopted a different income approach. He assessed market value based upon the "unencumbered fee simple". That is, he incorporated into his market value assessment not only the owner's interest in the lands, but in addition the theoretical current leasehold values of the commercial space – ignoring the actual rent for the leases then in place. These leasehold values he characterized as "fair market rent".

In effect, Mr. Martino applied the concept of "current value", imported into the legislation in 1997 as the new basis for the assessment of land value for taxation years after 1997.

[24] The Board reviewed the Agincourt Mall case and recognized that the Divisional Court appeared to have accepted that the fee simple, if unencumbered, required that the land be valued with leases at market rent. However the Board held that this was obiter and not binding upon it. In my view the interpretation of the Divisional Court in Agincourt Mall further provides some reason to doubt the correctness of the Board decision.

[25] For these reasons, I am satisfied that there is some reason to doubt the correctness of Board's decision in interpreting the definition of "current value" in section 1 of the Assessment Act.

[26] While the parties agree that on a leave application the court must be satisfied that there is some reason to doubt the legal correctness of the Board's decision on a question of law, the respondents argue that the standard on a leave application must be assessed in light of the ultimate standard of review on an appeal, which they submit is reasonableness. I am not persuaded that this is a helpful nuance in this case; the outcome of this motion seems to me to be the same regardless of which standard of review is applicable on appeal.

Question of Law

[27] There was some debate with respect to the appropriate question of law involved. The Respondents submitted that the appropriate question of law is:

Was the Assessment Review Board correct in law in determining that the Act's requirement for valuation of the fee simple, if unencumbered interest required the taxpayers' properties to be valued on the hypothetical basis of being unencumbered by leases, vacant and available for lease at current market rent?

[28] The Applicants wished to add to a general question: Did the Board err in law in concluding that the Bank Towers had to be valued as if vacant and unfinished?

[29] It seems to me a broad question of law encompasses all the necessary implications.

[30] Leave to appeal is granted on the following question of law:

Did the Assessment Review Board err in law in construing the definition of current value in section 1 of the Assessment Act and in particular the phrase 'fee simple, if unencumbered'?

A. KARAKATSANIS J.

Released: