The constantly rising real estate prices in Vancouver and its surrounding areas have instigated an infamous practice, known as “shadow flipping”. Not only has shadow flipping been widely publicized, it has also been highly frowned-upon by lawyers, prospective sellers, and the B.C. government.
In the usual course of a purchase and sale of a property, an assignment clause may be included in the contract of purchase and sale to allow the buyer to assign the contract to another individual or entity prior to the completion date. Assignment clauses were originally created and used to provide the buyer with an opportunity to assign their rights under the contract of purchase and sale to another individual or entity, to accommodate for a change in circumstances that may affect the buyer’s ability or need to purchase the property after their initial offer to purchase the property. The inclusion of an assignment clause also serves to protect the seller by allowing the transaction to complete if another buyer is willing to purchase the property under the same terms and conditions as the executed contract of purchase and sale.
Shadow flipping, on the other hand, involves an exploitation of the assignment clause. In the case of shadow flipping, the contract of purchase and sale is assigned multiple times to different buyers before the completion of the transaction. The original contract of purchase and sale that was executed between the seller and the original buyer is “assigned” (or sold, technically) to subsequent buyers who are willing to pay more for the property in question.
For example: A listing realtor has negotiated a deal whereby the seller has agreed to sell his property to a buyer (“Buyer #1”) for $1,200,000.00. The seller and Buyer #1 signs a contract of purchase and sale. The listing realtor then finds another buyer (“Buyer #2”) who is willing to pay $1,400,000.00 for the same property. Accordingly, the listing realtor negotiates a deal where Buyer #1 sells the contract to Buyer #2 for $200,000.00 (the assignment fee). The listing realtor may then find a third buyer (“Buyer #3”) who is willing to pay $1,600,000.00 for the same property. Similar to before, the listing realtor then negotiates a deal between Buyer #2 and Buyer #3, such that the contract of purchase and sale is sold again for $200,000.00.
As you can tell from the above scenario, Buyer #2 and Buyer #3 each make a profit of $200,000.00 (minus the listing commission). At the same time, no property transfer tax is paid by either of them because there is no actual transfer of title to the property. The listing realtor also profits in this scenario by earning commission on all three separate transactions. Consequently, this leads to a great deal of inequity as the original seller ends up receiving much less for the property than what it is worth and the last buyer ends up purchasing the property for a significantly inflated price.
Last month, Premier Christy Clark vowed to implement rules to close the loop hole in B.C.’s real estate laws and regulations that currently allow for shadow flipping to occur. The Real Estate Board of Greater Vancouver has already contemplated the tripling of fines that can be levied on unethical realtors as a result of misconduct. Some other suggestions that have come up in the discussion on banning shadow flipping include:
1. Requiring sellers to give informed consent to any assignment of the contract of purchase and sale; and 2. Requiring all profits made by any assignment of the contract of purchase and sale to be forfeited to the original seller.
Although the banning of shadow flipping may not necessarily “cool” down Vancouver’s hot real estate market, it may help to combat unnecessarily inflated sale prices. With that being said, the B.C. government should also be cautious to not overly restrict the use of assignment clauses so as to penalize buyers who are utilizing the clause for bona fide purposes or in good faith.