The Treasury has issued a consultation paper introducing proposals for new tax charges for UK commercial property held through international structures. The proposals could have a significant financial impact on UK investment decisions, and could conceivably put a break on property development across the country.
Historically, UK commercial property has been an attractive asset for foreign investment. Office blocks, hotels, and industrial parks across the country have been built with foreign money, and are owned through non-UK structures ranging from the relatively mundane (eg non-UK companies) to the exotic (eg Jersey property unit trusts). More recently, the government has encouraged foreign investment into commercial property by allowing non-domiciled individuals to bring funds to the UK tax free for such projects.
Impact on international investor returns
Under the new proposals, we expect net returns on the disposal of UK commercial property to reduce. The proposals will impose a tax charge on the foreign owner when commercial property, or the company owning it, is sold. They will also extend existing tax charges on the sale of residential property to include companies with multiple shareholders. In addition, the proposals include other changes that appear merely technical, but which in practice are likely to increase the amount of tax payable by foreign companies, such as freezing indexation relief and taxing rent under corporation tax rather than income tax rules.
There are some good tax arguments in favour of these changes. It never really made sense to tax residential and commercial properties in different ways, and the proposals will rationalise the system. The changes will also put foreign and UK resident investors on the same tax footing, removing imbalances from the property market that currently make investment more expensive for UK investors than for their foreign equivalents. They are also likely to raise a decent amount of additional revenue.
The new legislation will not take effect until April 2019 and includes some protections for existing structures, but there is no doubt that many investors will need to review their plans, and investment funds previously earmarked for the UK may find their way elsewhere.
Existing overseas owners looking to sell UK property will face a choice between reducing margins and increasing prices, and landlords intending to retain their property assets will face the same dilemma. Combined with increasing interest rates, there could be a significant destabilising effect on the commercial property market. Will commercial property prices fall as international investors leave the scene, thereby reducing demand? Will such investors adjust the price they are willing to pay, to maintain yields? Will rents increase as landlords look to recoup additional tax costs? The UK commercial property market is huge and varied, and, for example, a prestige hotel development in Birmingham will be affected very differently to a light industrial park in Bristol. However, anyone looking to rent, buy, develop or sell commercial property in the next few years needs to be alive to the prospects for disruption and, perhaps, to new opportunities as well.