Commercial property tax clauses fly under the radar in Government review

Considerable media focus on the Government’s discussions around eliminating the depreciation clause for real estate investors, has narrowly focused on the residential property sector, according to a senior commercial property analyst.

John Freeman, who heads up the valuations division of real estate company Bayleys in Wellington, says most of the tax review attention has fallen on scenario of a two bedroom flat or three-bedroom home owned as a passive investment by thousands of ‘mums and dads’.

However, Mr Freeman said that while this aspect certainly fueled emotions and made for headlines, it ignored the much larger business activity of commercial property investment – the tens of thousands of factories, retail outlets, warehouses, offices and commercial complexes throughout New Zealand owned by individuals, family trusts, corporates, and NZX-listed companies.

“Few ‘experts’ in their analysis and review of the Prime Minister’s proposed tax reform, made mention of the implications for commercial investors on the potential removal of any depreciation clauses. It’s a classic ‘apples and oranges’ comparison scenario,” Mr Freeman said.

“Certainly, none of the commentary seemed to understand or mention, that for commercial property, there was in fact separate depreciation clauses for the structural aspects of a building, and for the fit-out aspects within the physical structure.

“My reading of John Key’s announcement was that only the building structure depreciation clause, and not the fit-out depreciation clause, would come under closer scrutiny.

“As a precaution however for commercial property owners/investors, it would be highly prudent for them in conjunction with the professional expertise of an accountant or taxation/valuation analyst, to review the composition of their portfolio - ensuring that a segregation of ‘structures’ and ‘fit-out’ from a tax depreciation perspective has been undertaken.”

Mr Freeman said that if the structure depreciation allowance was removed as predicted, at least the fit-out depreciation could still be claimed.

“Interestingly, in many cases, fit-out depreciation annual claims can seriously outweigh those applicable to the structure,” he said.

“For investors where specific property assets were not segregated at the date of acquisition, there is a distinct possibility that a ‘retrospective analysis’ can be undertaken to correct this oversight. Again, accountants or taxation/valuation analysts are the experts in this field, and should be consulted.”

Mr Freeman said that for residential property investors, the matter of structural depreciation vs fit-out depreciation was far more clear cut – having been clarified as far back as 2006, when a joint statement from the Institute of Chartered Accountants and the Inland Revenue Department, stated that: “The asset is the entire building, and it is not acceptable for taxpayers to break up residential properties into smaller components in order to obtain higher depreciation rates.”

The IRD commissioner then went on to say: “The better view of the law is to apply depreciation to the combined asset (ie: the building) and not to accept the practice of ‘breaking up’ rental properties into smaller components in order to obtain the higher depreciation rates listed under the ‘building fit-out (when in the books separately from building cost)’ asset category.