Tax regime hinders build-to-rent sector
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Tax regime hinders build-to-rent sector

The burgeoning build-to-rent sector is being hamstrung by taxation issues even before the first property has been approved.

Lendlease chief executive Steve McCann has said repeatedly that the developer and infrastructure giant is very interested in the sector but is restrained from making a firm commitment under the current tax regime in Australia.

However Mirvac, one of the country's largest residential developers, has entered the sector with the launch of the Australian Build-to-Rent Club (ABTRC or the club), with the Clean Energy Finance Corporation (CEFC) committing to a 30 per cent interest as a cornerstone investor in the first close.

Mirvac's first build to rent property at Indigo Pavilions, Sydney Olympic Park in NSW.

Mirvac's first build to rent property at Indigo Pavilions, Sydney Olympic Park in NSW.

The value is about $1 billion and aims to help address the housing affordability issue in Australia. The seed asset for the club will be Indigo at Mirvac’s Pavilions project at Sydney Olympic Park in NSW, Mirvac’s fourth building in the precinct.

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There will be dedicated on-site leasing and management, high-quality amenities, a resident program and leading sustainability features. Mirvac will act as the development, investment and property manager.

Build-to-rent is known as multi-family housing in overseas markets and provides an alternative for developers to offer a form of affordable housing.

Home and apartment developers usually build assets that are sold, whereas build-to-rent means they keep the property and rent it out, thus generating recurring income as a landlord.

The potential advantage for renters is greater security of tenure and consistency of property management, compared with the churn of landlords flipping properties in a hot market.

Tax regime

Under the tax current regime in Australia, it favours the existing build-to-sell model.

Taxes on the value of land, construction costs and holding structures diminish returns and erode profit margins, resulting in developments unlikely to reach many investors’ return hurdles.

Land tax obligations are a key consideration because the underlying profit margins of build-to-rent investments are relatively tight.

According to CBRE's viewpoint report: A Taxing Time for Build-to-Rent, the treatment of the GST is another example where developing a residential asset or commercial asset is more favourable than build-to-rent.

We believe build-to-rent can provide renters with better choice, better quality and better security of tenure.

Mirvac chief executive Susan Lloyd-Hurwitz

The report says the land tax obligation for build-to-rent developers and investors matters because the underlying profit margins of build-to-rent investments are relatively tight.

CBRE research revealed that yields on build-to-rent investments would sit slightly above yields in the residential sector (2-3 per cent) at about 4.5 per cent. While this is an attractive return given the low-risk nature of build-to-rent, it is still low, and land tax will erode it.

In a hypothetical model from CBRE, the impact of GST is quite significant and the internal rate of return (IRR) falls 99 basis points for both foreign and domestic investors.

The author of the report, CBRE’s head of capital markets & forecasting research, Ben Martin Henry, says factoring in all three taxes of land, GST and withholding tax for overseas investors, the total IRR is reduced by 2.42 percentage points, delivering a return 25 per cent lower than if those taxes were more supportive of build-to-rent developments.

In the United States, where the sector is well established, it is valued in the multi-billions.

"We have a global approach to the build-to-rent sector, but in Australia it is difficult with the taxation treatment," Mr McCann said at the Lendlease full year report briefing in August.

"From our perspective the sector is another example of diversifying our business."

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Mirvac’s chief executive Susan Lloyd-Hurwitz said renting has become a lifestyle choice for a much wider group of people who want to be closer to work and other lifestyle services and amenity.

"We believe build-to-rent can provide renters with better choice, better quality and better security of tenure. Recent reforms from the federal government, as well as the work of state government working groups, have demonstrated strong support and momentum for the build-to-rent sector," Ms Lloyd-Hurwitz said.

"Build-to-rent makes good business sense for Mirvac, by providing us with a new asset class and a secure revenue stream, as well as presenting us with a new and growing customer base. We are excited to drive the establishment of the build-to-rent sector in Australia, for which we see enormous potential over time."

The move by Mirvac comes after the Australian government announced draft legislation that once enacted, in July, would permit institutional investors to invest into build-to-rent residential through a managed investment trust (MIT).

Currently, MIT entities are precluded from acquiring residential assets unless they are considered "affordable housing".