How ‘landlord tax’ will hurt tenants
By Peter Muiruri | June 18th 2015
How will the new tax regime for landlords affect tenants? That is the question on the minds of many urban dwellers after the Government last week announced that it would levy a 12 per cent tax on gross rental income that is less than Sh10 million, instead of charging the usual 30 per cent on landlords’ net income.
In his budget statement for the 2015-2016 financial year, Treasury Cabinet Secretary Henry Rotich said on Thursday last week that in the recent past, residential and rental business have witnessed substantial growth, whereas rental income has not been commensurate with that growth.
“I propose to simplify the taxation regime for landlords owning residential property by taxing their gross rental income at 12 per cent for gross rental income below Sh10 million per year,” said Rotich.
This pronouncement is likely to touch a raw nerve considering that taxing rental income has been one of the most contentious issues for the Government.
Landlords have in the past been accused of being “stingy” by being quick to collect rent but failing to remit the requisite tax, thus denying the Government much needed revenue.
It is estimated that between 70 and 80 per cent of residents in urban areas are renters. In the financial year 2012-13 the Kenya Revenue Authority collected Sh1.5 billion from non-compliant landlords. The figure was expected to double in the next financial year (2013-14).
According to the National Housing Survey released early this year, 2.5 million out of 3.6 million households in urban areas are renters. Many of these are in the lower and middle segments of the market.
In the past, the Government has tried all tricks in the book, including mapping of all residential areas to bring this important segment into the tax bracket with little success.
To such defaulters, Rotich had this sweetener: “I propose to introduce a tax amnesty for landlords who have not fully declared rent or are outside the tax net. In this respect, the landlords with tax arrears are advised to prepare to engage the Kenya Revenue Authority (KRA) to clean their tax records.”
Rental income has always been taxable since the early 1970s. Why then, has it remained a contentious issue? Reginald Okumu, director of commercial services at Ark Consult, a Nairobi-based real estate firm, says the way landlords tabulated their income may have resulted in the widespread lack of compliance.
“Many landlords in Kenya operate in an ad hoc manner where few records are kept yet it is such records that the taxman relies on to deduce taxable income,” says Okumu.
Before Rotich’s declaration, taxation on rental income was guided by Section 15 of the Income Tax Act and was defined as “tax chargeable on net profit after deducting allowable expenses”.
But as they say, the devil is in the details. First, a landlord needed to keep very accurate records detailing, among other things, the cost of construction in the case of new rental units, rentable units and rent per unit, rent received as well as invoices and receipts of expenses.
KRA defines allowable expenses as costs incurred in the overall production of the rental units during the taxation period.
This includes fees paid to professionals in the course of construction such as architects, quantity surveyors and engineers. Added to this is the cost of materials, management fees, labour and marketing. A landlord was supposed to subtract these expenses from his or her gross income and arrive at the chargeable rent to be taxed at an annual rate of 30 per cent.
Considering that many landlords operate informally and without procuring the services of tax experts, non-compliance was bound to occur.
So, will it now be easier for landlords to comply owing to the amnesty and the revised taxation regime? Well, the answer depends on who you ask.
Okumu says landlords are there to make a profit and will always push any extra costs onto the tenant.
“Considering that landlords are required to pay the 12 per cent tax on their gross income, they can comply but then push all operating expenses such as utility bills and maintenance costs to tenants. Still, compliance will depend on how well they keep the income records,” he says.
Stephen Mutoro, CEO of Kenya Alliance of Resident Associations (Kara) says that tenants will always be on the receiving end because of malpractice of unscrupulous business people who believe the consumer must always shoulder the burden of any new tax measures.
“Whichever way you look at it, no landlord will agree to carry the tax burden on his own. Any increase in rent means that some have to move out of good houses, thereby downgrading their lifestyles,” says Mutoro.
According to Mutoro, the Government has never got it right when it comes to taxing the residential market “since it has failed to come up with a good mechanism to tell who earns what in rent”.
“If the current measures fail this time around, this new taxation may go the way of capital gains tax on the sale of shares, thus denying the Government revenue,” he says.
As a gesture of goodwill, Mutoro says the Government ought to give more incentives to developers of affordable housing so that more citizens can be housed.
However, Ephraim Murigo, the secretary general Urban Tenants Association of Kenya says that increasing rent will not reduce landlords’ tax burden. He says that if they are strictly tax compliant, increasing the rent means raising their gross income and that will translate to higher tax.
“Landlords have to keep in mind that the Government will now tax what they actually receive as rental income at a rate of 12 per cent. If you increase the rent, you are increasing your gross income by the same margin that is still taxable,” says Murigo.
Still, a landlord would rather raise the tax payable through a rent increase rather than have his previous gross income slashed.
Take the case of a landlord who owns 50 units that he rents out at Sh15,000 per unit a month. That’s a gross income of Sh9 million a year.
After deducting the 12 per cent tax amounting to Sh1.08 million, he remains with Sh7.92 million. He may reason that by increasing the rent by Sh1,650, his gross income will increase to Sh9.99 million.
Tax payable will increase to Sh1.19 million. He will take home Sh8.79 million, a figure still close to the previous “tax free” Sh9 million if he passes all operating expenses to the tenants. Either way, the tenant loses.
However, Okumu says developers need to explore other business opportunities created by the budget so as to expand their revenue base.
For instance, he says, Rotich exempted from VAT all taxable goods and services for use in the construction of industrial and recreational parks of 100 acres or more.
To Okumu, real estate is a winner as long as the demand exists.
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