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A landlord will often use a leasehold inducement to either entice a prospective tenant or to retain an existing one. Tenants like receiving leasehold inducements since it is viewed as “free money”. However, this isn’t really the case since a leasehold inducement can result in taxable income for a tenant and a deduction for the landlord. In some situations, the tenant may also be entitled to a deduction. It is important for both parties, tenants and landlords, to follow the income tax rules, otherwise known as treatments, to avoid running afoul of Canadian income tax legislation.
Leasehold inducements can come in many forms; reduction of rent, free rent period, cash payments, a lease buy out, and property improvements. According to the Canadian Revenue Agency (CRA), the legal nature of the lease agreement between the tenant and landlord determines the taxable status of the leasehold inducement. Furthermore, the way the taxation leasehold inducement is treated for the tenant may not be the same for the landlord.
For example, a cash inducement paid by a landlord to a tenant in order to secure a lease is generally treated as taxable business income for the tenant and amortized over the term of the lease. If, however, the cash payment inducement is used by the tenant to improve the premises, an election can be made by the tenant, whereby the elected amount can be offset against the cost of the improvement. This would reduce or eliminate the income inclusion resulting from the cash inducement. It may also be possible for a landlord to argue that the inducement was principally paid in order to benefit the landlord in the current year. This would allow the landlord to deduct the inducement as a current expense.
On the other hand, non-cash payment leasehold inducements, such as buying out another landlord’s lease, become a deductible expenditure for the landlord while it may be treated as income for the tenant. Furthermore, when a landlord renovates their existing property to suit the needs of the tenant, this does not affect the tax status of the tenant, but the expenditure is likely capital in nature and should be added to the cost of the property.
While leasehold incentives are designed to benefit both the tenant and the landlord, determining the tax status of those legal agreements can sometimes feel like a maze of confusion. However, the professional accounts at Hogg, Shain, and Scheck are her to guide you through the process by offering professional advice and tax accounting services that treat each lease agreement individually with the proper accounting treatments on a case-by-case basis.
Need more advice on how to apply these tax tips to your leasehold inducement? Contact the charted accountants at Hogg, Shain, & Scheck at 416-499-3100.