Changing the tax policy on rental income on its own cannot resolve the shortage of supply

The policy challenge for government is to provide a supply of affordable homes for those who wish to become owner-occupiers while ensuring  reasonable cost rental accommodation is available for tenants
Changing the tax policy on rental income on its own cannot resolve the shortage of supply

If tax policies are to be changed, it might be more effective to look at ways either to accelerate construction or reduce construction costs rather than ways to dampen down the after-tax returns on completed units.  File picture: Dan Linehan

The latest development in the housing crisis is the threat to apply the tax rules so as to dissuade larger institutional investors from buying into the residential property market at the expense of owner-occupiers. 

It’s a strategy that has already applied to smaller landlords in the private sector for many years.

There is a huge difference between gross rental yields and net rental yield for individual investors.

The structure of tax on rents ensures that the after-tax amount for a private investor is as little as it possibly can be; the combined impact of income tax, PRSI and USC can halve the landlord’s income from a residential property.

The interest charges on mortgaged property reduce the tax cost for landlords, but ironically, with interest rates so low, far more rental income falls within the charge to tax each year. 

Higher interest rates used to largely extinguish the tax charge and thus the cash flow burden of renting out a property. Either an interest bill or a tax bill used fall due in the early years of a mortgage. Now both routinely arise. 

Too much of a negative cash flow will swamp any capital yield, no matter how attractive the yield might be.

Nor is it possible to offset the capital cost of a property against the rental income arising from it.

This wasn’t always the case. Offsetting the capital costs against rental income to wipe out the tax bill was the essence of the so-called “section 23” properties which were prominent in the 1980s and 1990s. 

Those incentives increased the housing supply but also ultimately contributed to the property crash in 2008 as some properties were priced for their tax benefits rather than for their location.

In fact, we may now have gone to the other extreme when it comes to the rigours of the regime for taxing individual landlords. 

All these restrictions apply because generally speaking, income from rented residential property is ring-fenced from other income and allowances, and is subject to a special set of rules all of its own.

The restrictions are not as pronounced for an institutional landlord, which may be less reliant on loan capital and which can use a legal structure known as a Real Estate Investment Trust (or REIT) to organise investment across multiple properties. 

The use of such arrangements may now fall under examination.

The policy challenge for government is to provide a supply of affordable homes for those who wish to become owner-occupiers, while at the same time ensuring that reasonable cost rental accommodation is available for tenants. 

This becomes more complicated because the scale of the challenge differs between Dublin and the rest of the country, as highlighted in the most recent Daft Irish Rental report.

The Irish rented residential market can be a solid investment proposal with good yields. 

We have tinkered with after-tax returns on property for many years in an attempt to manage affordable supply for private renters and purchasers alike, yet the problems remain. 

Changing the tax policy on rental income on its own cannot resolve the shortage of supply of accommodation, because there are simply not enough residential units.

If tax policies are to be changed, it might be more effective to look at ways either to accelerate construction or reduce construction costs rather than ways to dampen down the after-tax returns on completed units. 

Improved investment allowances on construction equipment, enhanced tax deductions for the costs of worker training and safety, and tax payment deferrals for the industry, all subject to fixed time limits, may offer better results.

  • Brian Keegan is Director of Public Policy at Chartered Accountants Ireland

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