Home Property Australia From supportable tax integrity to damaging tax – risking 150,000 new rental homes

From supportable tax integrity to damaging tax – risking 150,000 new rental homes

  • August 16, 2023
  • by Property Australia
Property Council Chief Executive Mike Zorbas appearing at a virtual hearing yesterday of the Senate Economics Legislation Committee

Property Council of Australia Chief Executive Mike Zorbas has appeared before the Senate Economics Legislation Committee, advocating for changes to the proposed Thin Capitalisation Bill to help preserve the Australian Government’s housing goals.

“We have to move forward with this, and we have to make changes to this Bill,” Mr Zorbas told the Committee.

“Otherwise, it directly scores an own goal on housing affordability in this country, among other negative impacts on our cities,” he said.

Opening statement delivered by Mike Zorbas:

Australia has had one of the most envied and transparent real estate investment trust environments since we became the third country in the world to create an institutional property trust with the General Property Trust, today known simply as GPT, in 1971.

Let me say at the outset, the Property Council of Australia supports the stated objectives of this Treasury Laws Amendment Bill 2023 without qualification.

The government’s original policy announcement and Second Reading Speech were addressed to tax integrity measures to prevent base erosion.

Base erosion is not typically a problem in the institutional property space. Most importantly, it has not been asserted to be a problem with Australian property trusts over the last nine months of consultations around the stated integrity objectives.

Senators can be assured this Bill, if unamended, goes well beyond the stated integrity objectives.

Before I offer constructive and significant criticism of the Bill as drafted, I want to make two observations that are relevant to the impacts of the Bill as drafted.

The Australian Government has shown that it is willing to boost the delivery of new homes for Australians. It is intent on passing the Housing Australia Future Fund which we support.

The government has made a sound announcement to finally reduce the MIT withholding rate from 30 per cent to 15 per cent for eligible build-to-rent housing projects and make our market internationally competitive for institutional rental investment for the first time. EY research shows that this has the potential to deliver 150,000 new apartments across the next decade. It’s a no-brainer. We strongly support these and any cogent initiatives to close the chronic national housing supply deficit. More on the relevance of this in a moment.

In its current form, the Bill is a direct tax on the supply of 150,000 new homes for Australian renters, undoing the good work of balancing the playing field for build-to-rent housing investment and amounting to an own goal on the Government’s ‘one million well-located homes 2024-2029’ target.

It is also a rationale-free new tax on investments in the productivity of our cities, impacting the entire property sector including commercial, industrial and office.

This Bill inadvertently captures genuine, vanilla, third-party debt that is relied upon by the property industry as a necessary means of doing business.

The most common investment vehicle to invest in real property is a unit trust structure.  These trust structures will not be able to access the Third-Party Debt Test, while the Fixed Ratio and Group Ratio Tests will apply inappropriately to them.

If passed unamended, the Bill will render investment returns from a significant number of projects too low to proceed. We know this from our members, who rely on foreign pension funds and sovereign wealth funds to partner with them to build the homes Australians need. This would be a perverse policy outcome.

Oddly this Bill immediately puts at risk financing for 20,000 new homes under construction or in planning and it otherwise puts at risk those 150,000 apartments over the next decade.

In one of scores of examples, a pipeline of more than a thousand apartments, worth more than two billion dollars and commencing next year will not go ahead because the investment assumptions no longer stack up.

Three central problems with the Bill

The property industry would not have access to third party debt deductions, which is a pillar of the property trust financing structure. To take the most straightforward example, a trust structure is not an Australian resident, and so is automatically prevented from accessing the third-party debt test. More generally, standard commercial terms of third-party lending arrangement will also not satisfy the third party debt test, resulting in third party debt deductions being denied.

The fixed ratio test and the group ratio test severely limit flexibility of where debt can sit in a structure – e.g., at a downstream entity level or an upstream entity level.  Debt deductions arising in upstream vehicles will be denied under these measures.  Upstream debt is common where debt is sourced to finance a portfolio of assets, or where debt is sourced to finance the acquisition of a property holding vehicle.

The debt creation rules have been included in the Bill without any consultation.  The breadth of these rules is extreme – they can apply to genuine third-party debt, they can apply to restructures where no additional debt arises, they can apply to standard refinancing transactions, and they also apply (in effect) on a retrospective basis, in that they apply to arrangements entered into prior to 1 July 2023.

Solution – a delay in the relevant new thin capitalisation tests applying, to apply from 1 July 2024 to ensure they operate as intended, removing the debt creation rules from the Bill so that they can be the subject to consultation as part of the amendments to section 25-90, or better still, Property Council amendments.

Solution – a delay in considering the relevant sections, or better still, Property Council amendments

We have been in respectful discussions with Treasury and relevant ministerial offices, and those discussions continue.

We hope that the targeted amendments set out in our written submission will be adopted, and so ensure the Bill appropriately addresses integrity risks, facilitates standard commercial lending arrangements in the property sector and avoids contributing the Australia’s housing affordability crisis.

We welcome questions from Senators to either achieve more detailed review of the relevant section of the Bill as proposed by the BCA, FSC and AIC or fix the Bill, as per our written amendments, so that institutional property can continue to lead the charge in closing Australia’s housing supply deficit by an additional 150,000 homes over the next decade.