Landlord contributions to fit-out

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What are the tax implications for lease incentives? And do landlords give fit out contributions to tenants? This Legal Kitz blog post will tell you all you need to know about landlord contributions to fit out and lease incentives.

What are lease incentives?

Lease incentives are a tactic used by developers trying to lease new buildings so they can sell them faster and compete with enticing tenants for a vacant property. In Australia, lease incentives are found throughout the commercial leasing landscape and are essential to many negotiations. They appear as a great bonus, but they possess commonly forgotten tax implications.

What are landlord fit-out contributions?

A landlord will commonly give fit-out contributions as one of these lease incentives to tenants. This is essentially a landlord gifting an allowance to spend on joinery, electrical, plumbing, tiling or any other processes of installing fittings and fixtures, appliances and decoration. A landlord can pay this contribution on a tenant negotiated reimbursement basis, where the tenant will provide receipts showing a fit-out cost. However, the landlord may require you to produce several quotes for the fit-out work and decide to pay the cheapest quote provided. Alternatively, a landlord may complete fit-out works under an agreement to the value of the incentive amount. 

It may be a standard requirement that the landlord will not pay a fit-out contribution until you have:

  • executed the lease;
  • provided the security required under the lease. For example, a bank guarantee or security deposit;
  • taken out the necessary insurance policies; and
  • submitted the plans and specifications for the fit-out work for the landlord’s approval.

What are the tax implications for landlord contributions to fit out?

It is important that a tenant asks their landlord about these preconditions before agreeing to the incentive payment and signing a lease. This all sounds good, but these can create different tax implications and risks. Not only is a landlord usually well advised to fully understand their tax implications when offering these incentives, but they may also provide an incentive clause allowing them to reclaim all or part of the value of the incentive if your lease is terminated early. Landlords will also get an immediate tax deduction for handing out these incentives and small businesses tend to quickly take these incentives because they don’t have $100,000 as an example to fit out the premises. 

When tax and future payments are not considered, businesses can be stuck with a hefty tax fine and don’t leave funds following the fit-outs to pay it. Remember that if the landlord retains ownership of the fit-out, the costs incurred by the landlord will need to be analysed to determine the portion of the costs that are tax-deductible up front, depreciable over the relevant depreciating assets’ effective life, and/or eligible for the capital works deduction. Anything over the landlord’s contribution will be yours and does not qualify as income. This is the incentive tenants desire because it does not accumulate costs. Under this incentive, however, a landlord will not receive an immediate tax deduction and instead gets to claim the capital works deduction at 2.5% a year which is not ideal for them. Because of this, a landlord may try to ensure that the tenant assumes ownership of the fit-out immediately so that the costs incurred by the landlord will be tax deductible up front. In the eyes of tax legislation, this situation is receiving income and this income does not qualify for many existing tax law protections; as it falls under its own division of law. The time taken in receiving this deduction, under law, has an effective life of 40 years. Not to mention, this fit-out cost deduction is claimed at a rate of  2.5% annually as previously stated. This may cause problems for businesses that need to shut down or move locations with this incurring tax fee.

Legal advice

It is extremely important to consider these implications as a tenant and to not take incentives for face value. While it may reduce costs for some, it may cause unknown tax implications and ongoing concerns for others. If you are unsure about a lease incentive and you wish to negotiate the best terms and incentives, such as a fit-out contribution, you should seek legal advice. Legal Kitz business specialists can assist with ensuring that your matter is as time and cost-efficient as possible. We provide a FREE 30-minute consultation to set you in the right legal direction. Click here to book a FREE consultation with one of our highly experienced solicitors today or contact us at info@legalkitz.com.au or by calling 1300 988 954.

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