Owners of Canada's roughly 235,000 short-term rental units face a daunting obstacle if they choose to rent those units as traditional apartments, as a little-known tax rule obliges them to pay a levy of up to 15% of the value of each unit to rent it for long periods.

According to Canadian tax regulations, short-term rental property owners switching from short-term to long-term rental must pay the goods and sales tax as well as the provincial, or harmonized, sales tax on the fair market value of the property at the time it first gets rented for a longer term, the Canada Revenue Agency confirmed to CoStar News in an email.

Under the formula, the owner of an Ontario short-term rental property valued at $1 million is obliged to pay $130,000 in taxes when switching a short-term property to long-term rental as calculated by the combined 13% goods and services tax-harmonized sales taxes, or GST/HST, applicable in that province. Owners in other provinces are required to pay similar amounts, with variations on the provincial component of the tax.

The combined sales tax ranges from 5% in Alberta and the northern territories to 15% in the Maritime provinces.

The rules come as all levels of government have urged operators of short-term rentals to instead make their properties available as long-term rentals to combat the ongoing housing shortage. Municipal, provincial and federal authorities have created disincentives to short-term rental operations, ranging from fines for unliscenced operations to a newly announced elimination of tax write-offs for expenses on short-term rental properties.

The Canada Revenue Agency said the tax applies because the government classifies a long-term unit as newly built property after it is switched from the short-term category.

“A person who converts a property from non-residential use to residential use is generally considered to be the builder of the residential property for GST/HST purposes. A builder who leases property for use as long term accommodation will pay GST/HST calculated on the fair market value of the property when such a property is first leased as a place of residence,” the Canada Revenue Agency representative said in an email.

“Such a conversion from non-residential to residential use of property is similar to the purchase of a new residential property that is subject to the GST/HST,” the representative said in the note.

The tax could be seen as a major roadblock to the mission of increasing the conversion of short-term rental units to long-term rentals as the Canadian federal government, some provincial governments, as well as municipalities and even financial groups such as Desjardins, have been promoting measures to encourage such conversions to help tackle the ongoing housing crisis in Canada.

The Desjardins study from December calculated that 235,800, a total amount to 1.4% of all of Canada's rental units, or 4.9% of all apartments in Canada, were rented on short-term rental platforms during a time when Canada's residential vacancy rate was a minuscule 1.9%.

One Canadian tax professional acknowledges the tax could discourage the return of long-term rentals from the short-term category. “The policy of enhancing or creating more rental stock is an innocent bystander of existing rules,” Toronto-based tax specialist David Rotfleisch told CoStar News in an interview.

Nonetheless, Rotfleisch understands the logic of the policy taken by federal tax authorities. “The general concept is that you are introducing something into the system," he said. "So, if you brought a car in from the U.S., that’s self-supply. You have to pay GST on it. Real estate falls into the same rules as any other asset that you bring into the GST system.

“It’s not something designed to facilitate or thwart the rental use of property. It is one of the anomalies of the GST system. It’s necessary to prevent leakage of bringing something that wouldn't get taxed.”

Whether the Canada Revenue Agency audits people who fail to pay the tax is another question. “We get asked this question: What happens if I don’t pay my taxes? Well, ask yourself, ‘What happens if I rob a bank?’ You’re either going to get caught or not,” Rotfleisch said. He added that he believes the Canada Revenue Agency has been more active in previous years in real estate audits, most notably pertaining to house-flipping operations.

"People are worried," Toronto accountant Shafi Warraich said in an interview. Warraich, co-founder of Tax Heroes, says that his X platform posts about the tax have received considerable attention.

"Since we posted about this, people have been asking questions. I don't have enough data to determine whether people are complying with the tax, but they should be," Warraich said. "People should be approaching it properly and should not be taking risks. When it comes to the harmonized sales tax, the government has detailed knowledge, so if the government found out about nonpayment, it could put someone in the position of owing money to the Canada Revenue Agency and having a large amount of interest to be paying on that tax as well."

Meanwhile, Vancouver Realtor Steve Saretsky discussed the government tax policy in a YouTube video he posted in November. He told CoStar News in an interview that property owners making the switch are expected to volunteer the information in their tax returns. “It’s like an honour system. There are a lot of Canadians without access to good accountants and they won’t be aware of this tax. They could be subject to an audit down the road.”

While the tax might prove a major disincentive to returning a residential property to traditional rental, Saretsky noted that those making the switch must weigh the cost of the tax against the various future fines that short-term rental operators might face in their localities for operating without a license.

Murray Cox, whose San Francisco, California-based Inside Airbnb organization has lobbied against short-term rentals across North America, said in an email that his group is unfamiliar with the tax measure but considers it unhelpful in the quest to encourage short- to long-term conversions.

“In a housing crisis, the government should be creating incentives and regulations to prioritize the creation and protection of residential properties for residential use, not for tourist use, especially in regions under severe housing availability and affordability pressures,” he wrote.

Some owners making the conversion from short- to long-term rental could be eligible for a tax rebate, and owners can request a ruling on their situation, as the Canada Revenue Agency noted in its email.