Changes to the tax treatment for commercial property announced in November’s Budget are expected to have a material impact on the UK commercial property market.
Under changes announced with little fanfare in the Budget of 22 November, those selling commercial property will not be allowed to use indexation to mitigate their capital gains tax liability.
Indexation meant an investor could use the annual retail price index inflation rate to minimise the capital gains tax liability when they come to sell the property.
So if a property was held for a decade, when it came to be sold, the capital gains tax liability on any profit made would be calculated minus the inflation rate for each of the years the property has been held.
The rate of RPI inflation is usually higher than the consumer price index measure that is used to calculate most pay settlements and interest rates.
But in the Budget this has been abolished, so from April 2019 capital gains tax will be paid on 100 per cent of the profit made by commercial property investors.
Paul Smith, partner at Blick Rothenberg, an accountancy firm, called the tax change "significant".
Penny Phillips, tax director at RSM, an accountancy practice, said the changes are likely to “materially affect” the attractiveness of UK property to overseas buyers.
She said the previous tax treatment of property investments was “very attractive” and these changes are likely to alter the investment case for UK commercial property assets.
This means that the value of these properties is likely to fall, denting the returns that could otherwise be achieved.
However funds, both open and closed-ended, which invest in physical property assets will not be made to pay more tax as a result of the change.
Jason Hollands, managing director at Tilney Group, said capital gains tax is not paid by funds when they sell assets, including shares, and this does not change with the Budget announcement.
Commercial property real estate investment trusts (REITs) have been popular in 2017, with a range of new launches investing in niche property funds, such as Warehouse REIT and Supermarket REIT.
Harry Hyman, who currently runs Primary Healthcare Properties, an investment trust which buys commercial property assets and leases them to the NHS, said he thinks the changes could benefit the commercial property fund sector.
He said the tax changes may mean investors wish to sell their property before 1 April 2019, and this may throw up bargains for funds such as his.
Mr Hyman said the decline in the value of sterling over the past year is likely to mean commercial property assets in the UK remain attractive to overseas buyers, despite the tax changes.
Mr Hollands said the fact that funds are exempt from capital gains tax reinforces the attractiveness of funds as the best way for individuals to invest in commercial property, as opposed to buying the property directly.