Budget's effects coming more into focus for landlords

Alan McMahon, Colliers research director. Photo / Supplied

Two months after the May 20 Budget, the headlines in the immediate aftermath have been replaced by a more considered reflection on the subtle nuances of the changes, says Alan McMahon, director of research for Colliers International.

In a study of the impacts of the Budget on commercial property, McMahon says the flow-on effects are now becoming clear.

"Many companies, among them Auckland Airport, The Warehouse, Kiwi Income Property Trust and Sky City, have announced in recent weeks that their after-tax profits will take a one-off hit due to a revaluation of building structures to nil and the consequent deferred tax liability adjustment.

"They emphasise that although profit will take a one-off hit, the adjustment is a non-cash item and cash flows are largely unaffected. The reduction in profit however will be hundreds of millions across the corporate sector."

McMahon says the Budget's discontinuance of the allowance of depreciation on commercial property building structures effectively amounted to a tax increase.

"Commentators, notably the Property Council, have pointed out that non-residential property houses the nation's businesses and is a key and productive part of its infrastructure. Despite the reduction in corporate and PIE [portfolio investment entity] rates, this will include larger institutional owners, particularly those weighted to offices.

"They, and ourselves, have also argued that buildings do indeed depreciate, although the separation of structure value from the things that add value to a building structure - plant, lifts, carpets and, most critically leases, which provide income - is a virtually impossible task.

"In any event it seems to be a done deal, at least for buildings with a life of over 50 years, so that esoteric argument doesn't have to be pursued."

McMahon says a "more practical issue" on which ongoing argument and claims can be expected is the categorisation of building type by lifespan.

"The Government lists some examples of buildings designed to have a life of less than 50 years - farm and horticultural structures for example - but owners of industrial and retail buildings in high land value areas in particular will argue that comprehensive redevelopment of the land including replacement of the buildings is almost certainly viable inside 50 years."

McMahon says the effect on rental income by virtue of the GST rise to 15 per cent has hardly been mentioned, but consensus forecasts predict this will lead to a Consumer Price Index (CPI) peak of 5.2 per cent in June 2011.

"Increasingly, the rent review mechanism in leases written in recent years requires the movement in CPI to be taken into account. As market rents started to increase quite quickly in the early years of the century, tenants typically would not attach much importance to the CPI indexation, assuming that market rents would continue to rise.

"However in recent years CPI, even at its recent modest level of around 2 per cent per annum, has outstripped market rental growth, which has typically been negative over the most recent two or three-year period between rent reviews.

"A period, even a brief one, when CPI exceeds 5 per cent might prove useful to landlords whose rent reviews fall at the right time and whose rent review clauses allow them to take advantage of this convenient spike."

McMahon says another less reported but welcome initiative was the zero-rating of transactions which included the transfer of land between two GST-registered parties, with or without buildings, from April 2011.

"Coverage of the property effects of Budget changes has emphasised the negatives, but there are positives too," McMahon says. "We will be able to say to investors: 'no stamp duty, no land tax and lower tax rates across the board - and, in most cases, no GST or capital gains tax'. Additionally tax rates for all of us have decreased down to 28 per cent.

"If this encourages investors from residential into commercial property that can only be a good thing for the commercial property market."