Government tax increase kicking commercial property when it’s down

Vacant office and retail spaces rise, as 1.1 per cent of bank loans secured against commercial property are deemed non-performing. Photo / Alex Cairns

The Government is comfortable kicking commercial property owners when they’re down, taxing them an extra $575 million a year to help pay for tax relief for income earners and residential property investors.

Finance Minister Nicola Willis is standing by her decision to remove the ability for commercial and industrial owners to deduct depreciation as an expense when paying tax from April 1, 2024.

“[Making the change] provides us a significant source of funding for personal income tax reduction. That’s the policy we campaigned on, and reflects our priority, which is giving working people a better deal,” Willis said.

Her comment follows the Reserve Bank (RBNZ) highlighting the stress felt by the commercial property sector, as an increasing number of office and retail spaces have become vacant.

According to JLL research referenced in the RBNZ’s biannual Financial Stability Report, 5.8 per cent of prime office space, 13.5 per cent of secondary office space, and 7.2 per cent of CBD retail space in Auckland and Wellington were vacant by the end of last year.

“Structural trends such as increased remote working and online shopping, which were accelerated by the pandemic, have caused a rise in vacancies for office and retail properties,” the RBNZ said.

“In addition, high interest rates mean debt servicing costs have increased and property valuations have declined.”

The RBNZ identified the ongoing slowing in the New Zealand economy as the “key near-term risk” facing the commercial property sector.

It also said the removal of depreciation deductibility “could add to existing cashflow pressures”.

The portion of non-performing bank loans secured against commercial property jumped to 1.1 per cent in March, from 0.3 per cent in March last year.

This portion was above the 0.8 per cent non-performing loan ratio for businesses more generally.

While vacant office and retail spaces are visible to the public, commercial property only makes up 8 per cent of New Zealand bank lending.

The RBNZ noted banks in the likes of the United States are more exposed to the sector, which is grappling with similar issues to those faced in New Zealand.

Prime office vacancy rates are higher in Australian cities, however, Auckland’s secondary office vacancy rate is high relative to that across the ditch.

The RBNZ noted migration has seen New Zealand’s population grow faster than new commercial property has been developed. This has enabled commercial property owners to put rents up.

While this is a positive for building owners, it’s a negative for tenants, who Inland Revenue fears will also end up paying for the higher tax bill owners will face in the absence of being able to deduct deprecation as an expense.

Inland Revenue warned the Government against making this tax change, which will hurt businesses and hamper productivity.

The RBNZ noted banks are usually willing to support stressed customers but said some property owners may look to reduce the size of their portfolios.

The issue is the market has been quiet since 2021, which could make deleveraging hard.

“A global commercial property slowdown could further exacerbate this as it could weaken foreign investors’ appetite for property in New Zealand,” the RBNZ said.

“This would further reduce the pool of potential buyers.”

Jenée Tibshraeny is the Herald’s Wellington Business Editor, based in the Parliamentary press gallery. She specialises in government and Reserve Bank policymaking, economics and banking.