Taxation of Rental Income
In his presentation on the Economic and Financial Policies of the Government on January 16, 2006, former Prime Minister Owen Arthur noted that he would introduce a flat rate of tax of 15% on all income derived from the rental of home accommodation, and also allow persons renting such premises to claim a deduction of the lesser of 20% of their assessable income or $3,000. This proposal was put forward by the Government as part of its plan to relieve the burden of those who rent accommodation on a long-term basis, hence reducing their cost of doing business. The long-awaited legislation was eventually enacted in March 2007 by way of the Income Tax (Amendment) Act, 2007-6. The legislation as drafted provides for persons (whether companies or individuals) who rent residential property to be subject to tax at a rate of 15% effective from income year 2006. By the passage of the amendment to the Income Tax Act, Government has provided the enabling environment to ensure the smooth operation of this proposal, and has indicated the administrative practices that should be followed with respect to the provisions for residential rental income. One of the stated positions of the Revenue authorities is to ensure a high degree of compliance together with a reduction in administrative costs.
Analysis of rental income provisions in the Income Tax Act Companies
As a result of this legislation, companies which earn income from residential rent, as previously stated, are now subject to corporation tax at a rate of 15%, rather than the normal corporation tax rate of 25%. Companies which are not making losses on such properties have therefore benefitted from this 10% reduction in their rate of corporation tax. However, the legislation also provides that a loss incurred by a person in respect of residential property can only be deducted against assessable income earned by that person in respect of residential property, whereas previously there was no such restriction. The legislation has therefore created some anomalies for companies who have sources of income other than from rental of residential property, in that whereas before losses from one source of income could be offset against profits from another, this is now no longer possible.
Individuals are subject to similar treatment, except that individuals who earn income from employment or business are subject to tax on taxable income in excess of Bds$24,200 at a rate of 35%. Therefore, an individual who earns income from residential rent would see a reduction in their rate of tax paid on such income of 20%. As with a company, an individual can no longer deduct a loss from the rental of a residential property against income from other sources of income. The Act also provides that where an individual has other income besides residential rent, any excess allowances of that individual may only be deducted against residential rent where the allowances exceed the other income of that individual. It also prohibits certain deductions from being made against residential rent.
Analysis and challenges with respect to income tax provisions for rental income
One noticeable omission from the legislation is a definition of a residential property. This has created some difficulties since the administrative practice enunciated by the Department of Inland Revenue is that condominiums and villas should be treated as residential property. We believe that not all of these properties may in fact qualify as residential properties in some instances and would more appropriately be classified as commercial properties.
Another challenge that has been faced by many companies which earn income from residential rent, as well as from other sources, is the allocation of costs between the two streams of income. There are many costs that cannot be specifically attributed to one source of income or the other and the Department of Inland Revenue has advised that taxpayers use the most reasonable method of allocating such costs. With respect to capital expenditure, companies are also now faced with separating their depreciable property to ensure that the capital cost allowances are correctly allocated between residential rent and other sources of income.
Many individuals who may have recently acquired residential properties for investment purposes are also now being faced with a higher tax bill, since losses incurred by such properties can no longer be offset against their employment income. Due to the high proportion of interest paid on a mortgage
during the first several years, such properties normally generate tax losses for a number of years until the level of interest declines as the mortgage principal reduces. Many individuals who invest in second properties therefore relied on the ability to offset the tax losses incurred against their employment income, thus reducing their overall income tax liability.
The introduction of a rate of 15%, while it may be viewed as a positive move by the Government to reduce the burden of taxation, has also created an additional tax burden for others. There have been some winners and some losers as a result of the amendment. Perhaps a solution that would have satisfied most owners of residential property would have been to permit tax losses incurred from the rental of a residential property to be offset against other sources of income.
Prepared for Terra Caribbean’s The Red Book 2009 Pink Pages by: Gloria Eduardo, Tax Partner, PricewaterhouseCoopers