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Welcome to the February newsletter.
Upside of Rising Interest Rates
According to statistics provided by CommSec Economics the situation of higher interest rates should not be bad news for a significant number of people. The latest Melbourne Institute survey has reported that 46.2% of Australian households do not have any form of debt. Of those with some form of debt around 36% had a mortgage. Therefore approximately one third of Australian households are paying off a home loan whilst the other two thirds are either renting or have paid off their home. Accordingly if you are an investor you may find the rise in rates appealing. In particular self funded retirees and people saving to buy their own home clearly benefit from the higher interest rates.
If you are part of the two thirds of Australian households who does not have a home loan debt perhaps you should consider ways in which the higher rates can have a positive impact on you. If this appeals to you please make contact with your usual advisor to discuss further.
Personal Services Income – Avoiding Common Mistakes
A number of the clients at Macquarie Partners provide services that result in deriving what is termed ‘personal services income’. The ATO has recently released a link on their website discussing the 8 mistakes that are commonly made by companies, partnerships or trusts defined as personal services entities.
Whilst Macquarie Partners makes every endeavor to ensure clients affected by this legislation are not making these mistakes the fact the ATO is focusing attention on these entities is significant. Therefore if you are in control of a personal services entity or derive personal services income and you are unsure of the issues affecting such entities we recommend you discuss this with your contact at Macquarie Partners. We would certainly welcome the opportunity to ensure you understand the circumstances particular to your business.
Leasing Business Premises
Part 2 - Tax Issues on Lease Termination
Just like getting into a lease getting out of one can have a variety of serious tax consequences for both landlord and tenant. These can be mitigated or optimised with good tax advice.
1. Lease terminated by landlord
When a tenant receives a lease termination payment (because the landlord is terminating the lease early) generally the payment will be of capital nature. If the payment is greater than the cost base of the lease the tenant will make a capital gain.
A landlord can claim a five year straight line deduction for capital expenditure incurred on termination the lease if the expenditure is incurred in the course of carrying on a business or ceasing a business (i.e. large scale landlords). Most landlords (e.g. receiving passive rental income from a few rental properties) are not treated as carrying on a business as a landlord. Where there is no carrying on of a business a termination payment may be included in the cost base of the property (as the lease will merge back into the land on the termination of the lease).
2. Lease terminated by tenant
Where a tenant makes a lease termination payment (because the tenant is terminating the lease early) and the landlord is in the business of “leasing” the payment will be income in the hands of the landlord. In any other case the landlord will make a capital gain if the payment received is greater than the cost base of the lease.
A tenant can claim a five year straight line deduction for capital expenditure incurred for termination the lease if the expenditure is incurred in the course of carrying on a business or ceasing a business.
3. Fit out on lease premises
Whether a lease is terminated or it comes to an end after running its course a tenant and landlord should also consider what to do about the fit out on the premises.
i) Depreciable plant and equipment
Of the fit out costs were incurred by a tenant in relation to depreciable items of plant and equipment (such as air conditioners, blinds, carpets etc.) and the tenant abandons the fit out at the end of the lease the tenant will be entitled to a balancing adjustment deduction. The deduction will be the tax carrying value of the plant. On the tenant abandoning the fit out the landlord will become the owner of the plant and equipment but will not be entitled to any depreciation deductions.
However if the landlord incurred the fit out cists and owned the fit out the landlord will be able to continue claiming a deduction for the decline in value of the plant and equipment. The landlord will get a balancing deduction if the plan is scrapped (e.g. if the premises are refurbished before re-letting).
ii) Capital works
If a tenant demolishes capital works fit out it will be entitled to a deduction equal to the undeducted construction expenditure of the capital works. The costs incurred in demolishing capital works under a commercial lease (to ‘make good’ the premises upon expiration of the lease) will also be deductible to the tenant.
Where the tenant abandons the fit out at the end of the lease the tenant is taken to have notionally disposed of these improvements to the landlord. Where the tenant hoes not receive any payment for the fit out the tenant is taken to have received and the landlord is taken to have paid market value for the fit out. Practically speaking (depending on the type of fit out) the value of the fit out is likely to be nil with the result that the tenant realizes a capital loss.
What landlords should not miss here is the opportunity to access “free” tax deductions. If a tenants abandons the fit out the landlord will be considered to own the fit out and as such the landlord will have the right to claim deductions in respect of the undeducted capital works expenditure (such as alterations to internal walls, fixed wall cupboards and other structural improvements). This deduction arises even though the landlord does not incur any costs.
Conclusion
Both tenants and landlords can take tax effective action when the time comes to terminate a lease or when a lease ends. For more information please speak to your usual contact at our office.
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