Bad Timing for Leasehold Tax Enforcement
In the beginning came the yellow shirts and the airport closures in Bangkok and Phuket. Next came the red shirts in Pattaya, and those images played around the world of the suspected car of the Prime Minister being attacked on the streets of the nation's capital. Throw in the blue shirts – though I am still working out exactly who they are – and my wardrobe has taken a beating.
Today, trying to take a neutral stance, I wore white. I was first asked if I was attending a funeral. Failing that, was I many months early for the vegetarian festival? Okay, let's dismiss the fashion talk.
As I write this column, swine flu has just hit Asia, and by the time this comes out in print it's anyone's guess where all this is going. Earlier in the week the New York Times Global Edition printed a bombastic and somewhat sensational article on the imminent doom of the island's property market, showing pictures of empty beaches and idle construction cranes. I'm not sure when the pictures of the beaches were taken but it must have been at dawn, as every time I pass any of the island's coastal areas there are indeed signs of life.
Granted the market remains very challenging, but at the same time we live in a cash market where many of the developments listed by the article do not carry any debt. There is absolutely no chance of financial institutions stepping in and selling them off at 10 cents on the dollar, something now widely seen in the US, Europe and Australia. So things could be made to work, and yes it is indeed Summer in Phuket.
On the flip-side, the country's property market has clearly not yet gotten the attention it deserves, along with the foreign investment. While Prime Minister Abhisit Vejjajiva has made the right noises about stimulus, we are still yet to see these reforms in the market. Phuket remains highly dependent on foreign buyers, to the extent that 70-80% of its resort-grade property is held either by overseas buyers or foreigners living here. There appears to be no movement on foreign ownership of property or extension of the 30-year limit on leases, which impacts the availability of mortgages and leveraging of property in these cash-strapped times.
Leasehold remains the dominant structure for foreigners to hold property here in Phuket. In the condo market, over the boom years freehold and leasehold apartments traded at par market values with no second tier valuations. Following the Foreign Business Act (FBA) scare a few years ago, the use of nominees and offshore companies came under closer scrutiny, so leasehold again was the best option – aside from the 49% freehold entitlement for overseas investors in condominiums.
Under the law there is a 12.5% municipal tax for houses and land, which covers rented and leased units (i.e. villas or apartments). This also applies to the 51% lease portion of a condominium. While some projects have ownership structures for the land or company, the existence of the lease means the tax applies. However, during the past few years there was little enforcement of this tax and it was largely ignored by the industry.
Fast forward to the present, and now we see municipalities all over the island scouring estates and looking to assess this tax. Cherngtalay, which is home to a large critical mass of units, has led this movement, but it is now being seen in all of the local Tambon Administration Organization offices. There appears to be a great source of confusion among the municipalities about the tax, and what seems to have spurred the actions was the intention to apply it to rental units for long-term and holiday units, which are growing at a rapid pace. Given that these are hard to track, the next logical step was to hit the lessees of the units.
Timing could not have been worse. The tax has a significant cost impact and is being levied in a struggling market that relies on leasehold to assuage the fears of foreigners over the security of owning property in Thailand. The tax constitutes considerable income, but speaking to a number of estate agents there is also the question of whether the municipalities will invest this in improved services such as garbage collection and infrastructure.
In the past, the Provincial Administration Organization here instituted a very controversial add-on to the hotel tax that remains highly contentious even now. A large number of properties have refused to pay it, citing a lack of transparency on government spending (note: the Phuket Gateway project was apparently one of the key improvements from this tax but anyone visiting the facility will still scratch their heads wondering why it's even there).
I spoke to leading tax advisor Paul Ashburn at BDO Richfield in Bangkok about the issue. He believes that reforms will come. Ideally a new tax would amalgamate the existing ones and apply a wider scope that would lead to increased collections. Looking at the existing tax, there needs to be a dividing line between lease/rental tax and tax on short-term holiday rentals of villas and condos. The existing law fails to take into account this product, and there is a parallel issue in hotel-like licensing and collection of this tax. A few years ago serviced apartments in Bangkok, which were competing with hotels, fell into a gray area and this has now been addressed in a revised hotel act. Similar revisions need to take place to address rentals.
So leasehold looks set to remain a somewhat complex issue, and with such wide interpretations and assessments within different municipalities there looks to be no short-term solution. We'd hope the present administration would look at property and tax reforms as a way of increasing foreign investment. In turn this will help to spur recovery of the real estate market.