Lease Incentives For Hospitality Businesses
Finding the right commercial premises for your restaurant or cafe can be a long drawn out process and when it is finally identified, the accounting, tax and cashflow implications of entering into the lease agreement are often misunderstood or not fully considered.
Landlords often use lease incentives as an inducement for hospitality businesses to enter into a commercial lease. Incentives can be relatively simple arrangements, such as cash payments and rent free periods, to more complex arrangements combining multiple factors.
The type of incentive and the associated terms and conditions can result in radically different outcomes. The common types of lease incentive and their tax implications are listed below.
A common lease incentive is for landlords to offer the tenant a rent free period of anywhere up to 12 months. A rent free period or discounted rent for a period will not give rise to assessable income.
A landlord may also make a contribution for the tenant to undertake a fit out of the premises as an incentive. Generally, the contribution is in the form of either cash or reimbursement where asset ownership changes. On the face of it these options appear identical, however one results in an immediate tax impact on receipt of the cash contribution with deductions in future years, while the other has no upfront impact. In this case, the loss of 30% of a cash incentive impacts the cashflow benefit of the incentive making it less attractive.
Under a ‘make good provision’ the tenant is liable to compensate the landlord either by cash or by making changes to the premises to return it to the original condition at the time of entering in the lease agreement. This incentive option is increasingly used in new lease agreements, however the associated terms and conditions are often overlooked. Make good provisions are becoming more onerous as landlords are giving away more upfront - but beware the catch up at the end!
While general principles are of use, it is only when the actual terms and conditions of the respective leases are considered in detail that the true treatment of the incentives can be identified. Negotiating a slightly different form of incentive can be of major benefit for the lessee whilst the lessor may be indifferent. Such a difference could result in saving significant amounts of tax for your business.
Lease incentives can take many forms and the accounting and taxation implications can be particularly complex depending on your circumstances. If you are considering entering or renewing an existing lease for your hospitality business and you are uncertain about the tax and commercial consequences, please contact your relevant ESV engagement partner on 9283 1666 for advice and assistance.
Article by Jacky Sun