Long-awaited tax changes to propel build-to-rent investment in Australia

On 28 April 2023 the Federal Government announced a reduction in the managed investment trust (MIT) withholding tax rate for newly constructed residential build-to-rent projects (BTR) after 1 July 2024. Once the change is effective, foreign investors in qualifying jurisdictions (such as Singapore, Canada, Japan, Germany, the UK and US) will be eligible for a reduced rate of withholding tax (from 30% to 15%) on "fund payments" (broadly, a distribution of taxable income subject to certain adjustments) in relation to BTR projects in Australia.

A practical step toward alleviating housing pressures

For many years, the MIT regime has been the chosen vehicle of choice for long-term property investment in Australian real property. It is a regime which foreign investors are generally comfortable with, however the current MIT tax settings deny BTR the withholding tax benefit associated with the MIT regime.

Despite the steady growth of the BTR sector, the 30% MIT withholding tax rate has meant that BTR in Australia is less attractive in comparison to other property asset classes from a tax perspective. Until now, BTR has been competing with, and trailing behind, other property asset classes that have enjoyed the 15% rate, such as office, logistics, hotel and student accommodation assets.

Amidst growing concern for housing pressures across Australia, these changes are expected to incentivise foreign investment in the BTR sector. That said, there will be detail underpinning these changes and the eligibility criteria for these rules will be subject to further consultation.

How do we compare to the rest of the world on build-to-rents?

With the majority of investment in BTR coming from overseas, the 15% tax cut is considered a momentous step in developing an institutionalised BTR sector in Australia, following the US, UK and Japan which have long-term residential rental accommodation products known as multi-family and apartment real estate investment trusts (REITs).

According to a recent study commissioned by the Property Council of Australia, the BTR sector in Australia only makes up 0.2% of the residential sector, compared to 5.4% in the UK and 12% in the US. What this means for Australian projects is that inbound investment will come from investors, developers and operators who are likely to be well versed in the BTR concept.

What you should be looking at in the new legislation

While the detail of the new law remains to be announced, we make the following general observations:

The eligibility criteria for BTR MITs around some threshold matters will be critical, noting that planning for projects needs to take place well in advance. For example, will there be a minimum number of apartments required within a particular BTR development, or on a portfolio basis across Australia?

We would expect that, consistent with the MIT rules for other property classes, the BTR MIT will need to invest in land for the purpose, or primarily for the purpose, of deriving rent. This means that the rules will unlikely permit the BTR MIT to hold BTR apartments for the purpose, or primarily the purpose, of sale. Consideration should be given to exit strategy and whether the BTR project qualifies for MIT treatment if strata-ready projects are designed to maximise the potential disposal value after any minimum hold period.

The 15% tax rate substantially aligns the tax position of foreign investors in a BTR MIT with that of Australian superannuation funds (under current law, noting that changes for superannuation funds with balances over $3m, proposed to have effect from 1 July 2025, will mean that some members will be paying tax at 30%).

New South Wales and Victoria both have land tax concessions in the form of a 50% reduction in the taxable value of the land used for eligible BTR projects. Both those States also provide exemptions from surcharge stamp duty and surcharge land tax for foreign investors if certain criteria are satisfied. Western Australia and Queensland have also recently announced that they too will be following in the footsteps of New South Wales and Victoria by providing for similar concessions for BTR projects. However, as at the date of this article no draft legislation has been tabled by either of those two States. South Australia has also announced similar land tax concessions with a 50% reduction in land value for land tax purposes. The Australian Capital Territory Government is espousing the use of a single title for all residential properties in a BTR development which should, the government says, reduce annual properties tax liabilities including land tax. However, this is not akin to the concessions that have been offered by the other jurisdictions. The notable BTR projects have thus far been principally located on the Eastern seaboard (ie., in New South Wales, Victoria and Queensland) although with the shortages in housing being felt across all States and Territories, it will be interesting to see whether all States and Territories adopt similar concessions to level the playing field in attracting both foreign and domestic investors to support the BTR developments in their State or Territory.