The bill amending the Personal Income Tax Act, the Corporation Tax Act and other laws published on July 26, 2021, known as the “Polish Deal”, includes new rules for tax depreciation of real estate held by real estate companies. The proposed changes could significantly limit the value of the tax costs associated with depreciation.
Real estate company
The Polish agreement would not change the definition of a real estate company. It would continue to designate an entity other than a natural person, required to keep a balance sheet under the accounting regulations, in which:
- In the case of entities starting their activities:
- On the first day of the tax year (or if it is not subject to income tax, the first day of the tax year), the market value of real estate in Poland or the rights thereon real estate represented, directly or indirectly, at at least 50% of the market value of its assets, and
- The market value of such real estate exceeded PLN 10 million (or equivalent to the average exchange rate published by the National Bank of Poland for the last working day before that date).
- In the case of other entities:
- On the last day of the year preceding the tax year (or the financial year, if it is not subject to income tax), the balance sheet value of real estate in Poland or rights over these real estate assets represented, directly or indirectly, at least 50% of the balance sheet value of its assets
- The balance sheet value of such real estate exceeded PLN 10 million (or equivalent), and
- In the year preceding the fiscal year or fiscal year (as the case may be), taxable income (or if it is not subject to income tax, income recognized in net financial income) from real estate (i.e. for the rental, sublet, lease, sublet, finance lease or similar contracts, or the transfer of ownership of real estate or of rights on real estate, or of shares in other real estate companies) constituted at least 60% of the total taxable income (or of the income recognized in the net financial result, if applicable).
Depreciation of real estate in a real estate company for tax charges in 2021
The current law does not contain specific rules for determining the tax charges for depreciation of real estate companies. Thus, depreciation of real estate held by real estate companies can reduce taxable income according to the same general rules set out in income tax laws as depreciation of other fixed assets (subject to the applicable rate or depending on depreciation method chosen).
Depreciation of real estate in a real estate company for tax charges in 2022
The bill introducing the Polish Deal includes significant restrictions – at least for some real estate companies – on the tax deduction of the depreciation costs of their real estate. By virtue of the proposed amendment to the CIT Act Art. 15 (6) and s. 22 (8), the deductions for fixed assets included in group 1 of the Classification of fixed assets (and therefore most categories of real estate) of real estate companies (and only real estate companies) could not be higher for the fiscal year depreciation on fixed assets constituted in accordance with accounting regulations, chargeable during the tax year to the financial result of the unit.
These limits would not affect the right to accelerated tax depreciation of new tangible fixed assets acquired by a real estate company (CIT Law art. 16k (14)) or the right of a real estate company which is a small taxpayer or a taxpayer who launches its commercial operations to take a single depreciation of fixed assets (CIT law art. 16k (8)).
Accounting treatment of the real estate of a real estate company
If the proposed regulation enters into force, the tax-deductible costs for the depreciation of real estate (falling into group 1) of real estate companies could not be greater than the depreciation of such goods for accounting purposes. This could significantly reduce the cost base of real estate companies, depending on the accounting treatment of depreciation on the real estate they hold subject to tax depreciation.
It should be noted that the proposed rule would allow depreciation deductions on real estate (belonging to group 1) of real estate companies at a level not exceeding depreciation for accounting purposes. Consequently, the tax depreciation could be less, and thus, from the year in which this good is fully depreciated for accounting purposes, there would be no more depreciation on the good constituting deductible tax charges. The undepreciated tax value of such an asset could then be recognized as a deductible cost only upon the possible sale of the asset.
Here we will examine the relationship between depreciation for accounting purposes and tax depreciation of various types of real estate, as real estate companies are treated as a separate category of taxpayers.
For example, real estate companies operating as real estate developers would be essentially unaffected by the new rule (if it goes into effect). The buildings they develop are generally intended for sale within a period of less than one year, and therefore generally do not constitute fixed assets subject to tax depreciation.
Thus, regulations on the levels of tax depreciation of real estate do not generally apply to developers, and the proposed changes would not impact their income tax.
However, the change could have an impact, for example, on real estate companies owning real estate (belonging to group 1) which they use in their main activities, for example the rental of commercial buildings.
In their case, a reduction in the accounting depreciation rate, compared to the tax depreciation rate (in particular due to the need for an individualized value of these goods for accounting purposes which must reflect the real period of economic utility of real estate, including, for example, in light of rising real estate market prices), would automatically also lead to a reduction in the tax-deductible costs for depreciation of real estate.
Furthermore, the change could affect the deductible depreciation charges of real estate companies for real estate classified as investment property for accounting purposes. In fact, they are subject to a revaluation (including for depreciation) which is not, however, a consequence of the application of the depreciation rate (in the sense of the total cumulative depreciation retained). Thus, the value of the accounting depreciation on these buildings, which would set the maximum level of charges deductible from tax depreciation, would be zero.
Therefore, determining the accounting treatment of the real estate of such companies, including as investment property, among others, will be crucial in determining the tax consequences of the proposed limitation on depreciation costs of real estate owned by the companies. real estate.
Art. 3 (1) (17) of the Accounting Act defines âinvestmentsâ as âassets held by the unit for the purpose of obtaining economic benefits resulting from an increase in the value of the assets, generating income in the form of interest, dividends (profit sharing) or other benefits, including from a business transaction, and in particular financial assets as well as real estate and intangibles which are not used by the unit but are held by it in order to obtain such advantagesâ¦.
In turn, according to International Accounting Standards (IAS 40 – Investment property), “investment property” is defined as property (land or building or part of a building or both) held (by the owner or by the tenant under a finance lease) to earn rents or to enhance capital or both. In addition, a property is not an investment property if it is (among other things):
- Held for use in the production or supply of goods or services or for administrative purposes, or
- Held for sale in the ordinary course of business.
IAS 40 includes among the investment properties:
- Land held for long-term capital appreciation, not for short-term sale in the ordinary course of business
- Land held for currently undetermined future use (if the unit does not intend to use the land as owner-occupied property or intends to sell it in the short term in the ordinary course of business, then the land is deemed to be held for the capital increase)
- Building owned by the unit (or acquired by the unit under a finance lease) leased under an operating lease
- Vacant building intended to be leased under an operating lease.
It should be emphasized that investment property should not be directly linked to the main operating activity of the given economic unit. In practice, this means, for example, that the real estate of an entity (such as a real estate company) whose main source of income is the rental of commercial space should not be classified as investment property, but like fixed assets. In this way, these assets of a real estate company will be depreciated for accounting purposes. Under the proposed new rule, the amount of this book depreciation would limit the depreciation value of those taxable assets, but, unlike investment property, this amount should not automatically be zero.