Hi Joanna

My view is that it would not be common for a tenant to pay for a fitout where their payments are treated as prepaid rental. Whether the Unit Trust can claim a deduction for the fitout is outside the scope of the forum queries as it is a tax query related to the Unit Trust. My view would be the fitout costs would need to be in the name of the Unit Trust for it to be able to claim a deduction for these costs by the way of them being depreciated.

If the tenant is to pay for the fitout and the cost to be treated as prepaid rental this would need to be covered by an agreement between the Unit Trust and the tenant. The agreement would need to be able to support that the transaction has been made on an arm's length basis.

I note that free fit outs are covered by a tax ruling (IT 2631 Income tax: lease incentives) and it states:

"Free fit-outs

25. In relation to a free-fit out, the position will depend upon whether the ownership of the fit-out has passed to the tenant or remains with the landlord.

26. If the landlord has ownership of the fit-out, the only benefit to the tenant is the use of the fit-out during the term of the lease. This benefit will have some value to the tenant, presumably equivalent to a reduction in rent. Payments for the use of a fit-out, as with rental payments, would generally have a revenue character and be fully deductible. Accordingly, such a benefit will be effectively tax-free by the operation of subsection 21A(3).

27. The situation will be different if ownership of the fit-out has been given to the tenant. In those circumstances, if the tenant had incurred expenditure in relation to the acquisition of the fit-out, that expenditure would have been capital in nature so that the "otherwise deductible" rule would not apply to reduce the value of the benefit included in assessable income. However, to the extent that the fit-out represents plant or articles within the meaning of section 54, the lessee would be entitled to claim deductions for depreciation. If the tenant subsequently disposes of the asset, for capital gains tax purposes it will be accepted that the cost base of the asset is its market value in accordance with subsection 160ZH(9).

28. The landlord will be considered to have retained ownership of fixtures which were affixed by the landlord. If the lessee has a contractual right to remove the fixtures, he or she would have a valuable interest in the fixtures akin to ownership. For the purposes of section 21A, the value of that interest is considered to be the cost of the fit-out. The lessee would be entitled to claim a deduction for depreciation to the extent that the fit-out qualifies as depreciable plant or articles. In a case where the lessee has a contractual obligation to remove the fixtures but the landlord may direct that the items remain on the premises, the landlord will be considered to have retained ownership of the fixtures.

29. If in the process of negotiating a lease incentive, it was agreed that a certain percentage of a cash lease incentive would be expended on a fit-out which becomes the property of the lessor, so that the lessee received from the lessor an amount net of the agreed fit-out costs, only that net amount would be treated as assessable income. However, if the lessee paid for the fit-out after receiving a cash incentive from the lessor, the lessee will be considered to have derived an assessable amount equal to the full cash incentive. In a case where the lessee has responsibility for the fit-out and the lessor pays part or all of the fit-out costs to the contractor, the constructive receipt provisions of section 19 would apply and the lessee will be taken to have derived an assessable amount equal to those payments and any cash incentive."

Thanks

The Auditors Institute