As mentioned in our recent ‘pros and cons of accepting an incentive to lease’ blog, there are several different incentives landlords will offer to prospective or renewing tenants, especially in a ‘tenants’ market where vacancy levels are high.
These can include:
- Rent-free or rent-reduced period; or
- Fit-out contribution.
Below we cover how these incentives affect income tax for both the landlord and tenant.
1. Rent-free or rent-reduced period
If a landlord provides a rent-free or rent-reduced period, the foregone rent is neither assessable nor tax deductible to the landlord. But the landlord can still claim other expenses incurred on the property during the rent-free or rent-reduced period such as council and water rates.
The same applies for a tenant so the foregone rent is neither tax deductible nor assessable to them either.
2. Fit-out contribution
A fit-out contribution is one of the more complex lease incentives from a tax perspective. It depends on whether the landlord or tenant owns the resulting fit-out under the lease and also on the relevant legislation of the jurisdiction involved.
Option 1 – Fit-out owned by landlord
If the landlord owns the fit-out, then the fit-out contribution will not be assessable to the tenant, so the tenant will not be entitled to depreciation deductions for the fit-out costs.
When the landlord owns the fit-out, they will not be entitled to an immediate deduction for the fit-out costs and they are subject to the capital allowance [depreciation] or capital works rules which depreciate the fit-out costs over their effective life [see below].
Option 2 – Fit-out owned by tenant
Where the tenant owns the fit-out, the fit-out contribution will be assessable to the tenant and deductible to the landlord.
So the tenant will need to analyse the fit-out costs to determine which amounts are deductible up-front, subject to depreciation rules or subject to capital works rules [see below].
Depreciation and capital works deductions
The landlord or tenant who owns the fit-out will be able to claim depreciation and capital works deductions on the following basis:
- As a result of a number of COVID-19 stimulus measures from 6 October 2020 until 30 June 2022 [asset must be installed and ready for use by this time], there is an immediate deduction for each new separate depreciable asset, providing the businesses aggregated turnover is under $5 billion;
- 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 an apportionment in the first year the asset is installed and ready for use.
As you can see, the tax treatment of lease incentives can be quite complex. We recommend you fully understand your tax and legal obligations before offering or accepting these sorts of incentives. If you require any assistance in reviewing your lease obligations and incentives, please get in touch with your contact at businessDEPOT or a member of our tax team.