This takes place in Traverse Town:

Aerith: For the last time Leon, Xehanort is not working with Traverse Town's hotel!.
Leon: The facts are all here Aerith! Xehanort takes down a world, and then, the survivors buy a room in the Hotel! It's also a plot in Real Estate! I mean, Cid bought his own shop and Merlin has his own Cave.
Aerith: So you're saying Xehanort works for Traverse Town.
Leon: And Maleficent too!
Cid: Alright Aerith the papers are signed. Leon You're going to a "happy house"
Leon: *Desperate voice* I'm not crazy!
Yuffie: Bye Leon
Leon: NOOOOOOOOOOOOOOOOOOOOO!
*Leon is dragged off to a sylum*
*meanwhile*
Xehanort: Six newcomers my master.
President of Traverse Town: Thank you, my student *starts to laugh crazily*