There are several different incentives landlords will offer to sweeten the deal for prospective or renewing tenants, especially in a ‘tenant’s’ market where vacancy levels are high. 

Common incentives include: 

  • Rent-free or rent-reduced periods
  • Fit-out contributions
  • Cash payments

But, how do these incentives impact income tax for landlords and tenants? Let’s dive in.

 

1. rent-free or rent-reduced periods

If a landlord offers a rent-free or rent-reduced period, here’s the tax kicker: 

  • For landlords: the foregone rent isn’t assessable income [or deductible], but other property expenses like council and water rates – can still be claimed. 
  • For tenants: similarly, the foregone rent isn’t tax deductible or assessable.

 

2. fit-out contributions 

This one is a bit trickier. The tax treatment of a fit-out depends on who owns the fit-out and the specific laws in your jurisdiction.  

  • option 1 – landlord owns the fit-out  
    • Tenants don’t pay tax on the contribution but can’t claim depreciation.  
    • Landlords can’t claim an  immediate deduction for the fit-out. Instead, they depreciate it over its effective life under capital allowance or capital works rules.   
  • option 2 – tenant owns the fit-out  
    • The contribution is assessable income for the tenant but deductible for the landlord. 
    • Tenants must analyse fit-out costs to determine what’s deductible up-front and what falls under depreciation rules or capital works rules [see below].

 

3. cash payments 

A cash incentive works like this: 

  • For tenants: The payment is assessable income 
  • For landlords: The payment is fully tax deductible.  

 

area of risk – residual amounts 

Lease agreements often include a fit-out contribution up to a limit, with any leftover amount offered as cash or rent relief.  

For example: 

  • An incentive which allows for $500,000 of fit-out costs with the balance to be paid in cash. If the tenant only spends $400,000 and the remaining $100,000 is paid in cash to the tenant.
  • That $100,000 cash is taxable income for the tenant and deductible for the landlord.   

If the balance is converted to a rent free or reduced-rent period there’s no income tax implications to either the tenant or landlord.

 

4. depreciation + capital works deductions 

Whoever owns the fit-out can claim: 

  • Small business benefits [if turnover under $10m]: immediate deductions for each new separate depreciable asset under $20,000 [including any relocation and installation costs], providing the business’ aggregated turnover is under $10 million. Depreciable assets costing more than $20,000 are added to the Small Business Depreciation Pool and are depreciated in accordance with the special rules for simplified small business depreciation.
  • For all other businesses: depreciation over the asset’s effective life of the relevant assets as per the ATO ruling.
  • For any structural works: there will be a capital works deduction of 2.5% or 4% per year depending on the type of building, with apportionment in the first year the asset is installed and ready for use. 

As you can see, navigating the tax implications of commercial lease incentives can be quite complex. Before offering or accepting incentives, make sure you fully understand your tax and legal obligations.

 

need guidance?

Need help? The team at businessDEPOT is here to guide you. Contact our business tax consultants at 1300 BDEPOT or email us at oneplace@businessdepot.com.au.