Tax time 2020: implications for rental property investors

Speaker 1:
Hello, and welcome to the CPA Australia podcast, your weekly source for accounting, education, career, and leadership discussion.

Elinor Kasapidis:
Hello, and thank you for joining us today. Just want to let the listeners know this podcast was recorded on the 25th of June, 2020, and the information is current as at that date. My name is Elinor Kasapidis, and I'm the tax policy advisor here at CPA Australia. This week on the CPA Australia podcast, we will be discussing tax time 2020 and rental properties with Robert McDowall, a partner at Arabon Accounting and CPA Australia member.

Elinor Kasapidis:
In this episode, we will discuss tax time 2020, COVID-19 impacts on rental property investors, and the things tax practitioners should consider when completing their client's returns. This podcast will help you understand the issues facing rental property investors, identify the tax consequences arising from COVID-19, and provide some tips to support discussions with your clients. Our guest today, Rob, is an experienced partner in a CPA practice who works with small and medium enterprises, public companies, and not for profit organisations. He is also deputy president of CPA Australia's Queensland Divisional Council, and one of the facilitators of CPA Australia's Public Practice Program. With tax agents just recovering from the onslaught of activity generated by the COVID-19 stimulus measures and finishing up their 2019 tax return lodgement programs, tax time 2020 is about to commence. Rob, what have the last few months been like for you and has there been a return to normal?

Robert McDowall CPA:
Hi Elinor. Thanks. Look, we were very busy, very, very busy throughout March and with new legislation being announced every few days, for us it really felt like it was a budget night, twice a week. And we were, through that time, having to juggle having staff working from home, yet at the same time we had a really high demand from our clients for meetings, phone calls, all the like. Going through that period, we're also trying to run extra webinars, create extra newsletters. So it was an extremely busy time for all of us. And what we actually found during that time was everything took a back seat. JobKeeper, cashflow boost, doing cashflow forecast for our clients, applying for loans and grants, that became front and centre. And so what was usually a very busy time for us to try and close off our tax program for 2019 and then start moving into end of year planning, that all got pushed aside.

Robert McDowall CPA:
So look, it is starting to get back to what we've been calling our new normal. Whilst we've had all our staff work from home we've been upgrading all of our audio visual equipment here in the office in our meeting rooms. We expect far more staff will be working from home in the future. We also think we'll be having a lot more virtual meetings with clients and staff. So we'll be bringing staff back into the office around mid-July when Queensland government reaches our new restrictions easing back. But yeah, it is starting to get to a new normal now we're back into doing more of the end of year planning. We've closed off our tax program for last year.

Elinor Kasapidis:
That sounds like a really common experience for many accountants and tax agents who, in our view, really were the frontline workers for business throughout this period. COVID-19 has also created new or unforeseen tax issues for many businesses, investors and employees. Do you have a sense of whether they're ready to sit down and talk about their tax affairs or are many still simply coping with the unexpected events that have unfolded in the past few months?

Robert McDowall CPA:
So look, we've actually had a really odd mix here. We've, clearly, we've had some clients that we've been in far more frequent contact than we ever would have in the past. We've got some clients who we were talking to them every few days, every week or two, others we were meeting them every month. So it's almost as if the whole normal end of year planning and tax planning stuff isn't as necessary because we're just in constant engagement with those clients, helping them with their planning activities. We've also, at the same time, created far more resources for our clients. So we've been recording webinars every two to four weeks for our clients. We've been sending out short, sharp newsletter updates and email updates to our clients. So we've got a lot who are perhaps actually more willing to try and navigate some of this stuff on their own.

Robert McDowall CPA:
And they've been understanding of us as well, that we have actually had the same amount of time to do our end of year planning with our clients because usually that stuff all picks up around budget night each year. So budget night happens. We then have six or seven weeks between budget night and the end of the financial year where we're just doing back-to-back tax planning with our clients. But that all got pushed back with JobKeeper. It all got pushed back with our tax program. So really our focus right now is Div 7A loans and make sure they're doing minimum repayments and dividend statements and trust minutes. And instead the planning meetings we actually expect, rather than being pre-interview, we've had short, quick ones for interview to make sure those things that have to be done by 30 June are done, but we actually think we'll have more fuller and bigger planning minutes with clients in the new year and leading up to the October budget.

Elinor Kasapidis:
So that's an interesting observation about how there's been that real crunch and the priority issues are the things that don't have any discretion. They need to be done. So before we delve into the issues for rental property investors, do you have any general advice on how to support clients through this difficult period?

Robert McDowall CPA:
Look, I think the first and most important thing is just being really proactive and talking to your clients. When this all started, we told all of our staff, "Drop all your work this week. Drop everything. Get on the phone. Call your clients, check in on them, see how they're going." And in a way that's actually still been what's happening now. So it's reaching out at least once a month to each of their clients in business. Just check. "How are you going?" Asking that question, checking on their mental health. "Do you need a hand with anything? Is there anything we can do? Hey, did you know about this new update from the ATO?" So we've been trying to be proactive and not just do it all through email, but actually talking to our clients and giving them someone to talk to. At saying that, we still have actually been increasing, as I said, the number of webinars and email updates to our clients, just to try to keep them in really short bite-sized pieces.

Robert McDowall CPA:
So here's information that we think you need to know. Digest it. And if you need to, give us a call and we'll talk to you about it because again, everyone's circumstances are different. We need to make sure we're applying to their circumstances. Yeah. Outside of that, we've definitely had clients who've been impacted significantly by COVID-19 and who've had to close their businesses or have really reduced their business. So we, again, have been really active in where they are going to struggle to be able to afford our fees, we've been reducing fees, we've waived them, we've deferred them, put them on payment plans, anything we can do to make it easier for them, because it's important for us to make sure we've actually got clients at the other end of this. So we've had clients where they've closed down and we're still giving them all the support without having to charge them for it knowing that when they reopen, and some of them have already reopened, we can start charging them again.

Robert McDowall CPA:
And they're extremely thankful for the support we've offered them. The last bit we have done is we did decide to, we usually raise our fees every year like clockwork whereas this year we have, in some cases, deferred those price increases to the 1st of October and in other circumstances, we've actually cancelled some of those fee increases and we'll do the next year on the same fees as this year.

Elinor Kasapidis:
So that's a very empathetic approach. And I think what I heard was that communication is key. So I really liked the idea of making sure that you spoke with them, that they felt that human connection, while at the same time providing them with digital delivery for information and keeping them in the loop about what was going on. And I think as well, just that longer term view of the commitment to your clients and creating that loyalty is a really good strategy. So now to turn to rental properties, what are some of the COVID-19 impacts on the rental property market in Australia that you've seen?

Robert McDowall CPA:
Look, clearly there's a number of landlords, and this is both commercial landlords and residential landlords, where they're going through and having to, and again, sometimes they might feel like they're being forced to, others are actually being very cooperative and volunteering or negotiating with their tenants. But they're reducing rents. They're sometimes doing waivers, deferrals. But this will clearly have a significant impact on the landlord's income and their cashflow as well. So we're quite aware of this and, following on from this, as being rent freeze is put in place as well, and every state has approached this differently. So there are national guidelines, but every state has approached this differently. So there's going to be different disputes arising, depending on the circumstance and what state you're in. So we are seeing more need for mediation and negotiation support, whether that's the accountant helping to support negotiations, whether that's bringing solicitors in, whether that's mediators.

Robert McDowall CPA:
So from that point of view, from a landlord's perspective, it is very tough. And whilst they have been getting some supports from banks, for instance, there's a time limit on that support as well and I think they're quite conscious of that as well. So everyone's keen to see things pick back up again. I suppose the longer term impacts that I see happening is there's going to be a big drop in demand for rent. If you look at the residential space, you've got people who are out of work, they've been stood down, their income's dropped significantly, or they've lost their income. So you might find more individuals who might, for instance, now be trying to share house. So that's one less tenant out there on the market for property. From the business point of view, clearly you've got businesses that will be looking to cut costs.

Robert McDowall CPA:
Maybe the staff have been working successfully from home. So they might be able to downsize or take up less space, or they might be looking, when their leases come up for renewal, at the market and seeing, "Well, there's all these empty vacancies here and my neighbour over there has been having reductions." So maybe they're coming and asking for reductions in their rent as well and landlords may feel pressured or obliged to do that. So I do see demand's going to be dropping. I see, for those businesses that survive, they're perhaps going to be in a stronger bargaining position with their landlords, just because of the number of vacancies out there. This isn't even taking into account the fact that you're going to have businesses that will be closing and shutting down and perhaps less new businesses coming into the market whilst there's still so much uncertainty.

Robert McDowall CPA:
So all of that across the board is going to be leading, I feel, towards lower rent prices and tough negotiations with landlords and tenants. You may find, on the other hand, for new landlords moving into the space that if property prices drop, they may be happy to offer those lower rental prices. So that way they'll still get a good rate of return on their investment property because they haven't had to pay so much to buy those properties. But then again, that then impacts the overall market prices for rents because property prices are down. Therefore, new rent landlords are offering cheaper rents, which then impacts the entire market.

Elinor Kasapidis:
So there is some real structural adjustments coming, and it sounds particularly for the commercial rental property market, but also obviously in the residential rental space, that reduced demand will create some challenges, I guess, for many of the investors. Because they used to say property investment is as safe as houses, but COVID-19 has shaken things up a little bit. So when you think about tax, so there are these broader structural issues, economic adjustments. From a tax perspective, let's take long term leases. What are some of the tax implications of things like deferred interest in rent payments or having a vacant property?

Robert McDowall CPA:
So look, the first thing that comes to mind is mortgage payments being deferred. So we've had a lot of clients asking about that, but just want to remind everyone that those interest costs are still being accrued so the banks haven't waived the interest, they've just deferred mortgage repayments. So those costs are still added to the balance sheet. The loan balance are still liable to pay them and they can still claim a tax deduction for that. You flip around to the other side and look at rental income, on the other hand. Rental income is generally declared on the date it's received. So in a way you've actually had a reduction in rent or a waiver, then that's a permanent loss to your income. But we've been deferring rent that will, in one way, you're actually going to be dropping your income this year, perhaps pushing into a negatively geared position if you weren't already there.

Robert McDowall CPA:
But then that income will have to be declared in a later year when the deferred rent starts to be paid back by the tenants. You might have higher taxable incomes in a later year. So that can pose some interesting tax planning challenges for people. Other things to remember. Some landlords have loss of rent insurance, so they will need to remember to include that insurance in their taxable income each year. And just because your rental income has dropped or you might even have a vacant property, if it's still available for rent and still advertising for rent, you're still going to be able to claim those deductions against that property. But I do want to flag one thing to remind people about, is that the laws did change recently last year so you can no longer claim tax deductions for vacant land, unless it's actually been used for business or that land is available for rent.

Robert McDowall CPA:
So previously some people used to claim expenses when they were developing, say, property on that land in order to rent out. There is another exception though, that if your property was destroyed, for instance, in the bush fires, and you're currently rebuilding that, you do have up to three years to rebuild that property, and you can still claim tax deductions for your holding cost like interest and rates.

Elinor Kasapidis:
That's really helpful clarification because I'm aware that those are some of the most common questions that are coming up at the moment. So for many Australians who also offer properties such as their holiday house with short term stays, that market has evaporated right now. So what are some of the issues at play in this space?

Robert McDowall CPA:
Look, these ones here, if you go back to your traditional short term markets, so again, usually holiday homes or holiday destinations, just because there's no demand coming through and there's no bookings coming through, if those properties are still genuinely available for rent, if they're still on the market, they're still being advertised, maybe through an agency, maybe through property manager, you can still claim the tax deductions against that property if it's there already and being held for income. On the other hand, if you have perhaps stopped advertising that for rent and decided that you're going to use it yourself, you'll maybe go on your own holiday there and get more private use out of that or not make it available for rent, then that would be considered private and you wouldn't be able to claim deductions against that.

Robert McDowall CPA:
If you look, on the other hand, at your newer markets, so Airbnb, for instance, it's going to be a similar thing where if you've got an Airbnb property that is entirely dedicated to Airbnb, so you're not actually a host, you're not living there, it's just a property that you use exclusively for that income, you would still, again, if it's still being advertised and still marketed, it's still available for rent, you'd still be able to claim deductions against that. But if it's, for instance, your own home where you might be travelling and put it up on Airbnb, or you might leave a room up on Airbnb, if it's no longer being let out, if it's no longer being booked, then it would be considered private and domestic, and you wouldn't be able to claim any of those deductions or expenses anymore.

Robert McDowall CPA:
And that's the same, for instance, if you were letting friends or family now move there or if you've offered it to someone else who needs that room, if it's not readily being tenanted out in that Airbnb where it's that private property where you're just renting out one room, then you wouldn't be able to claim any deductions against that anymore.

Elinor Kasapidis:
Thanks, Rob. Those are great tips. We'll take a break. And once we are back, I'll ask Rob some good practices and tips when discussing rental property investments with clients.

Speaker 4:
We hope you're enjoying this episode so far. To access all of CPA Australia's COVID-19 related resources, including articles, videos, checklists, and advice, go to cpaaustralia.com.edu/COVID-19. And now, back to the episode.

Elinor Kasapidis:
Welcome back. We continue our conversation now with some good practices and tips from Rob in relation to rental properties. So Rob, how do you go about rental property discussions, especially where a client may have been significantly affected by COVID-19 issues?

Robert McDowall CPA:
Yeah, thanks, El. So first up, again, we just need to call and check with the client to make sure things are okay, I feel. Every conversation I've had with clients so far around this has been a different story every time. So you can't make a blanket assumption or recommendations. It's also really important, I feel as well, to check in on the clients tenants. So everywhere, the name of the game I feel right now is actually consensus. It's negotiation. And it's having people work together, understanding that everyone's suffering right now, and some more than others. So I usually start out trying to work out where everything's up to so far. Have they actually had discussions with their tenants yet? What's the history? Who asked for what? What's been offered so far? Have we started negotiations?

Robert McDowall CPA:
Sometimes maybe they haven't even started a dialogue yet. Maybe they've got no clue or maybe they're in a deadlock. So I want to try and get a picture of where things are at and perhaps if nothing's happened yet, suggest or guide the client to actually start those conversations with their tenant and not wait for the tenant to reach out first. And by going through the conversation, I'll actually get a good picture of working out what supports the landlord has actually requested themselves. So are they receiving support from their bank yet? Have they asked for that support? What government supports have they looked and sought out?

Robert McDowall CPA:
I think from there really, once I've got that good, clear picture of where things are at and what supports are on offer, is to actually sit down and help the client work out a cashflow forecast. And this is especially important when we're looking at a commercial tenancy where they maybe rely on that. We've got cases where you've got super funds, that might have a commercial building in super fund, and that's going to have significant impact on their cash balances and their cash reserves and perhaps we might need to be looking at making contributions [inaudible 00:19:41]. So we need to really map out the cashflow forecast for the clients, take into account rental reductions and waivers and deferrals, do some scenario planning.

Robert McDowall CPA:
What happens if that tenant goes under and they lose access to that tenant and they can't refill it? What are the different plans in place? And take into account, again, what the cash reserves are, if those might run out and when they're going to run out. Because once we've got that picture really clear, then we can be of far more use helping them with negotiations, perhaps with tenants or reviewing the tenants financial information that they've provided. We can help provide financial information to the client's bank. Maybe they're going to be [inaudible 00:20:25] to the bank about refinancing or restructuring their loans, obviously being conscious about any credit license regulations and whether it should be getting brokers involved, for instance.

Elinor Kasapidis:
So I think that mapping out the cash flow forecast and the scenario planning is some really good tips. When it comes to tax, just shifting gears a bit, reasonable care has come up in a few of our conversations and obviously there is a bit of confusion sometimes around what is reasonable care. So what do you do to ensure that you have taken reasonable care in relation to your client's affairs?

Robert McDowall CPA:
So look, the question of reasonable care in relation to client affairs, the tax practitioners, they've got their code of conduct. It doesn't actually require us to audit or examine or review the books to verify accuracy, but we still do need to take reasonable care. The TPB has got a really great guide on their website. If anyone hasn't read it yet, I would recommend reading it because it helps clear up some of those questions that people might still have around what is or isn't reasonable care. So at Arabon ourselves, the way we approach it is if we ever have new clients, we do like to ask them to see documentation. It might not be everything, but just, do you have a copy of the lease agreement or maybe we'll look at your bank statements. If they're doing it through an entity, like a trust or company or super fund, we're generally asking for all the documentation anyway. Perhaps as just an individual investor, again, new clients, we like to see that documentation because we are talking about material sums of money in some cases.

Robert McDowall CPA:
On the other hand, if there's a client who's been a long term client of ours, we've seen them many years, nothing's really changed in their affairs, it's pretty much similar to last year, we tend to not be as strict about seeing documentation. We're quite happy and we've got that trusted relationship with them. We're quite happy to take them at their word. But that being said, if things do change or things seem a little unusual or there's been a material event, we would still ask them to see those records. If they've sold a property or if they've signed new leases for the like. Now look, COVID-19 clearly has been a material event and many of our clients will have significant changes. So I suspect this next year, and again next tax time as well the following year, we'll probably be asking for a lot more documentation.

Robert McDowall CPA:
Just be asking for copies like, "Oh, could you send a copy of what was agreed with the tenant?" Or, "Can you send a copy of this?" Because it's not even to say that we don't trust the client or that they're telling us the wrong thing, but this has been a stressful period and it's always like, I like to see stuff in writing so I can get a really clear picture of what was actually agreed and make sure that we're actually applying the tax rules correctly because just because a client might think it's one thing, when we actually see the documentation, we may realise it's actually different from what the client thought it was. And so it is good to see that, especially during these times where there's lots of changes happening.

Elinor Kasapidis:
That's a brilliant explanation of an approach that I think it's wise for all tax agents to take. Obviously with tax time, people will come in or you'll have a virtual discussion with many of them. Are there common errors made by taxpayers that you believe tax agents should raise with their clients? And not just for rental properties, but just more generally.

Robert McDowall CPA:
Look, over the last few years, two or three years I think now, the tax topics, really hot topics with the ATO, they've been talking a lot about work-related expenses and rental properties. Clearly when they're looking at the tax gap for individual taxpayers, those two issues have been identified as being a big contributor to that tax gap. I still find, even now after all the discussions we've had with our clients, with all the publications and the media releases from the ATO and the media attention, clients are still getting some of these three golden rules wrong. The ATO talks about their three golden rules. First of all, you have to have actually spent the money, not being reimbursed for it, for instance. You need to have actually been required to spend that money in order to earn your income.

Robert McDowall CPA:
And what I see the thing, perhaps most importantly, is you have to actually be able to substantiate it. And so we still have cases where there's clients trying to claim sometimes quite significant sums, for instance rental properties. You might be trying to pay for some large repairs or maybe some capital improvements where they don't actually have the records to prove they spent that. And I know there's a number of exemptions to substantiation or some rule of thumb guidelines, but you still need to make sure you can substantiate that stuff correctly. The other one that's on a similar note is not actually keeping adequate records to show how you correctly apportion your work-related use. And look, I think this is going to be a big case with a lot of people working from home now. Have you been taking adequate records to show how many hours a week you're working from home? Have you got adequate records to show what percentage of your phone use is for business use or private use?

Robert McDowall CPA:
The ATO does release a lot of guidance on their website on different methodologies that they accept to calculate the private use percentage. And we're constantly reminding clients and pointing them back to the ATO guidelines saying, "Look, here's the best practice. Follow this method and keep these records and then we can actually claim these expenses."

Elinor Kasapidis:
And I think that really articulates or reflects the importance of a tax agent. So the ATO has done a lot of communication directly to taxpayers, but there's nothing like having a direct conversation with an expert to get those rules and those habits in place so that taxpayers can get it right at tax time. So that's been some comprehensive and useful information about rental properties and a whole bunch of other things. Do you have any other insights or tips for our listeners on COVID-19-related issues that you expect to deal with this tax time?

Robert McDowall CPA:
I think the biggest issue that we're going to see in practice over the next few months is we're going to see the ATO start ramping up the integrity reviews and measures around JobKeeper and cash flow boost and early access to super. We've actually already seen a number of clients undergoing JobKeeper reviews, some of them perhaps random, some of them they're just checking to match up single touch payroll, reporting data with what's being reported. And it's been odd. A lot of these do require manual review. They get flagged for review. Someone at the ATO is going to manually review it. And we've seen some really significant delays, which at the end of the day, they then say, "Yep, we've done the manual check. It's all okay. We'll pay the JobKeeper to you." But in the meantime while that review's happening, and it can take a few weeks at times, we've got a client who's still having to try and juggle their cashflow.

Robert McDowall CPA:
They're actually having to do top-up payments for a number of staff. So their outgoing cash has actually increased because they're paying JobKeeper top-ups for a number of staff. And the moment there's any mention that they're undergoing review they're then worried that, "Okay, perhaps we're going to have a rejected staff member or something that's not going to be entitled and we've gone ahead and gone and paid them all these top-ups." So it is causing a lot of anxiety for our clients about what happens if something's denied and a lot of anxiety around the cashflow issues as well. I think the other thing that we're going to see coming through in the new year is when the various supports coming out from government and bank start getting reduced and wound back, we've got a review coming up in July or the review's already happening now, and in July the government will announce if there's any change to JobKeeper.

Robert McDowall CPA:
And irrespective, as and when things start to get wound back, while they support it's good to see that business is picking up again. But I still think there'll need to be targeted support for different industries, because some people are still going to not have that demand come back. They're not going to have the revenue and clients come in. And I think we're going to be facing a lot more insolvency, bankruptcy events, potentially over the coming months.

Elinor Kasapidis:
It's a critical time for businesses and their advisors, and it will be interesting to see how the next few months or even years go. So thank you, Rob, for those insights. For me in summary, the top three messages from this podcast for our listeners about communicating with clients is staying in touch, making sure they're okay, and keeping them informed and providing the service that they need as much as possible. On the rental side, despite market changes, if it's available for rent as a general starting point, you should still be able to claim as usual, but the timing issues with deferred interest being claimed this year, but with income being reported when it's received, that's something that needs to be taken into consideration when looking at cashflow. And finally COVID-19 has created material events. So when you're taking reasonable care and having a conversation with clients, you would expect to review a few more documents than you may normally just to make sure that you're helping your clients get it right.

Elinor Kasapidis:
Because things are changing so quickly, please make sure as listeners to stay up to date on the latest developments and ensure the information you provide is tailored to your client's individual facts and circumstances. So as we reach the end of our podcast, it's important to reflect on the incredible job tax professionals have done over the past few months. The issues and complexities raised by COVID-19 have been myriad and we believe the profession has risen and continues to rise to the challenge. Rob, would you agree as a practitioner and as a member, how have you seen the profession respond?

Robert McDowall CPA:
I do want to really think and thank, I suppose, all my fellow practitioners out there. I think we've done a tremendous job. Any of my fellow practitioners that I've talked to, it's always been a very similar story. They've, whilst at the same time having to worry about their own business and their own staff, if they have staff, and their own livelihoods, they have been able to put those worries aside in a time of great need for our clients. And like I said, it's a tremendous amount of work had to go into keeping ourselves up to date with all these changes and then actually work with clients to go through and make sure they all understand it and apply that. Some of these deadlines that we've been faced with, for some accountants they've perhaps being better positioned in place to deal with these changes because of the way they work with their clients.

Robert McDowall CPA:
But for many accountants, I feel they've had a fundamental shift in the speed and frequency and interactions they're having with their clients. So it's really important during all this, I think, to make sure you're actually looking after your own mental health as well. We're doing a wonderful job supporting our clients. We want to make sure we're also supporting each other and looking after ourselves. And I know that sole practitioners, no staff, is the most common type of accountant in Australia, public accountant. And so for those people and those practitioners, I think you've got to make sure you've got a network out there of colleagues. Reach out to other fellow public practitioners. Be the one to just reach out to someone and ask if you're okay. And if you don't have that network of other public practitioners, it might be some other business owners. Or even reach out to your CPA, your Public Practice Committee, for instance, or reach out to your division. There's always someone there willing to say hello and just have a chat and work through these things.

Elinor Kasapidis:
Thank you very much, Rob, for your insights today.

Robert McDowall CPA:
That's all right, El. Thanks. It's been a real pleasure.

Elinor Kasapidis:
Be sure to visit our show notes on the CPA Australia podcast webpage for links and more information on this week's episode.

Speaker 1:
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