In the current economic climate the capital value of a
commercial investment property cannot necessarily be
relied upon to produce a return for property investors. It
is, therefore, all the more crucial to ensure that an
investment property’s rental income stream is preserved
and maximised.
Reduction in the rental income stream
caused by Goods and Services Tax
Under the Goods and Services Tax (Jersey) Law 2007
(“GST Law”) a landlord of commercial property is liable to
account to the States of Jersey for 3% of its rental income
if its total annual income (i.e. not just its rental income) is
in excess of £300,000 per annum.
In other words, if the landlord of commercial property has
income in excess of £300,000 per annum then it will be
liable to pay GST at 3% to the States of Jersey on all of
its commercial property rental income.†
It is important to note that under the GST Law it is the
landlord and not the tenant who is liable to pay GST on its
rental income. However, a landlord can recover that
additional 3% GST liability from its tenant provided the
lease in question contains GST recovery provisions
enabling the landlord to charge the tenant rent plus GST.
Notably, this means that if a particular lease does not
oblige the tenant to pay the landlord rent plus GST the
landlord will lose 3% of its rental income stream because
it will have to pay the States of Jersey its 3% GST liability
out of its rental income without the ability to recover that
additional amount from its tenant. The same principles
also apply to GST on service charge payments received
by a commercial landlord.
Leases entered into prior to the introduction of the
GST Law and ‘grandfathering’ provisions
Commercial leases that were entered into prior to the
introduction of the GST Law may well have been drafted
without the inclusion of adequate GST recovery
provisions obliging the tenant to pay the landlord rent plus
GST because at that time such provisions would not have
been considered necessary.
Consequently, under the GST Law commercial leases
entered into before the GST Law was published have
been ‘grandfathered’.
This means that where a commercial lease was entered
into before 17 August 2007, supplies under the lease will
be counted as zero rated supplies for a period of 5 years
from that date (that is, to 16 August 2012) or until the
lease is varied, whichever is the earlier.
So, where a commercial lease was entered into before 17
August 2007 and the landlord’s income is in excess of
£300,000 per annum the landlord will be deemed to be
making a zero rated supply to its tenant and will not have
to account to the States of Jersey for 3% GST on its
rental income under that lease until 16 August 2012
(unless the lease in question is varied before that date).
A variation will not be held to have occurred if there is a
rise in the rental due to existing contractual JRPI or
market review of rents or if there is an assignment of the
lease in its existing format.
In practice, the effect of the GST Law on rental income
streams is as follows:
1. Where: (i) a commercial lease was entered into before
17 August 2007; (ii) the lease provisions do not provide
for the landlord to recover GST in addition to the rent;
and (iii) there is no variation of the lease before 16
August 2012, the landlord will lose 3% of its rental
income from 16 August 2012 until expiry of the lease.
2. Where: (i) a commercial lease was entered into before
17 August 2007; (ii) the lease provisions do not provide
for the landlord to recover GST in addition to the rent;
and (iii) there is a variation of the lease before 16
August 2012, the landlord will lose 3% of its rental
income from the date of the variation until expiry of the
lease (unless the variation of lease includes GST
recovery provisions).
3. Where: (i) a commercial lease is entered into after 17
August 2007 and (ii) the lease provisions do not
provide for the landlord to recover GST in addition to
the rent, the landlord will lose 3% of its rental income
from the date of lease commencement until expiry of
the lease (unless the lease is varied to incorporate GST
recovery provisions).
4. Where: (i) a commercial lease is entered into after 17
August 2007 and (ii) the lease provisions do provide for
the landlord to recover GST in addition to the rent, the
landlord will be able to recover rent plus GST from the
date of lease commencement. Provided the tenant is
registered for GST it will then be able to claim an input
tax credit from the States of Jersey for the GST paid to
its landlord.
How can a landlord preserve its rental
income stream?
To preserve rental income streams in light of the GST
Law commercial property investors and stakeholders
must ensure that leases are structured correctly in terms
of GST recovery provisions.
In other words, landlords need to ensure that commercial
leases enable them to recover rent plus GST from their
tenants.
Whilst at first glance this suggests that the tenant will be
worse off as it will be paying rent at 103% it should be
noted that provided a tenant is itself registered for GST it
will be able to recover 100% of the GST that it pays to its
landlord by way of an input tax credit from the States of
Jersey. Provided this position is made clear to tenants
and their advisors landlords who seek to structure new
leases (or re-structure existing leases) correctly for GST
purposes should face limited opposition during related
negotiations.
If, however, commercial leases are not structured
correctly then investors and stakeholders face the reality
of losing 3% from their rental income stream resulting not
only in loss of rent but also in a detrimental effect on the
net asset value of the investment property going forward.