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Before you sign a lease for the rental of your business premises consider these CGT implications

by , 17 April 2014
It's something most business owners don't do, but before you enter into a lease agreement for the rental of business premises, you must consider the Capital Gains Tax (CGT) implications. If you don't, it'll have a significant effect on the tax cost of your business operations. Here's a practical example that shows the CGT implications of entering into a lease agreement to rent business premises.

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Here's a practical example of how CGT works when entering into a lease agreement to rent business premises

Mr Smith's the owner of a fast food business, which carries on its trade as a sole proprietor.

On 1 March2006, Mr Smith enters into a five year lease for the rental of business premises.

Mr Smith improves the premises voluntarily with the consent of and ultimately for the benefit of the landlord. He spends R200 000 on improvements. The R200 000 is spent in year one.

So what are the normal and CGT consequences of the above transactions?

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CGT works as follows when you've entered into a lease agreement

Capital Gains Tax: The termination of the lease gives rise to a disposal for CGT purposes on 28 February 2011 (Paragraph 11(1) (b) of the Eighth Schedule of the Income Tax Act No. 58 of 1962 (ITA)).

The CGT consequences for Mr Smith are as follows:

Proceeds: R nil (No receipt or accrual to Mr Smith)

Less: Base cost R200 000 (Cost of improvements)

Capital gain/ (loss) R (200 000)

This means Mr Smith will incur a capital loss of R200 000 on the termination of the lease, five years after he incurred the expense. Unfortunately a capital loss can't be offset against taxable income.

What's more… He won't be allowed to deduct the cost of the improvements for income tax purposes because the improvements don't qualify for a deduction (there's no contractual obligation to effect improvements) and he can't claim a wear and tear allowance on qualifying assets if he's not the owner of the assets.

There you have it. If you're entering into a lease agreement for the rental of business premises, make sure you consider the CGT implications.



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