In the current economic climate, the heady days of low vacancy
rates and high rents may be drawing to a close. As times get
tougher, the lease incentive is likely to increase in popularity as
landlords compete for tenants.
There can be large differences in the way that different types
of incentives are treated for tax purposes. If you are a tenant,
you will want to make sure you are getting your money's worth
by structuring the incentive in the most tax effective way.
Landlords will also want to maximise their tax benefits. The trick
is finding the best structure for the particular deal.
Incentives can take many forms. Some of the most common ones
For a tenant, a rent free or reduced rent period is often a good
option as it is effectively tax free.
The disadvantage of rent abatements is that the tenant can be
required to take the incentive over a number of months or years. A
tenant often needs an injection of cash in the business at the time
it carries out its fit out and starts up its business. It may be
that the tenant is willing to forego taxation benefits in favour of
a lump sum payment for cash flow reasons.
Lump Sum Payments
The landlord may agree to give the tenant a cash incentive to
enter into the lease. Cash lease incentives are generally treated
as income in the tenant's hands and are liable to income tax.
This may erode the benefit of the incentive. For example, if a
corporate tenant is paid $100,000 as a lump sum incentive, based on
the current company tax rate of 30%, the value of the incentive
would be eroded to $70,000 in the hands of the tenant.
An example where this occurred was in the 1999 decision of
FCT v Montgomery. In that case, the majority of the High
Court held that inducement amounts of $29.35 million payable over a
three year period were income and taxable in the hands of the
One way of reducing the taxation impact of a cash incentive is
to spend it on deductible items, thus offsetting the tax otherwise
Free Fit Outs
Another popular form of incentive is a free fit out. The tax
treatment of this type of incentive will depend on who owns the fit
For example, a free fit out (or a heavily subsidised fit out)
which is owned by the landlord is generally tax free for the
tenant. In many instances this is a popular type of incentive for
landlords as it may enable the landlord to claim depreciation in
relation to plant and equipment forming part of the fit out.
As a general rule, the tenant's tax free status will be
retained if the tenant has an obligation to remove the fit out at
the end of the lease term provided the landlord may direct that the
fit out remains on the premises.
A free fit out which is owned by the tenant or the tenant has
the right to remove is assessable to the tenant, however it may be
open to the tenant to claim a deduction for depreciation.
The tax treatment of a free fit out may come down to the exact
wording of the clause so these types of provisions in leases often
need to be carefully crafted to ensure that they reflect the agreed
position on which party is to bear the tax liability.
Generally travel, accommodation, meals and recreation holiday
packages are effectively tax free to the tenant because the costs
are not deductible to the landlord.
As well as income tax issues, there may be capital gains tax and
GST issues associated with lease incentives.
So whether you are a landlord or tenant, the next time you are
negotiating a lease incentive, seek some advice about the tax
treatment. If it sounds too good to be true, quite possibly it
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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Many retail leases include a covenant to trade, requiring the tenant to open the premises for trade during certain hours.
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