THE Finance Bill introduced by the Minister for. Finance, Mr Quinn, on March 26th contained three significant measures which affect property. These relate to the treatment of VAT on the assignment and surrender of leases, the availability of capital allowances on some forms of hotel investment and the extension of the time limit for tax designated areas, which had already been announced.

While these provisions, as currently drafted, may be changed before the Bill becomes law in late April or early May, the broad approach is clear.

The VAT changes relate mainly to commercial leases and are aimed at VAT-exempt companies and other non-taxable bodies. VAT chargeable on leases taken out by exempt companies is non-deductible and should benefit the Exchequer. The proposals are aimed at tax avoidance arrangements used to avoid this cost and came into effect from March 26th.

On the creation of a long-term lease, VAT is charged by the lessor at the rate of 12.5 per cent on the capitalised value of the lease. The amount of VAT arising in the case of a lease with an annual rent of £30,000 is typically around £44,000.

A VAT-registered tenant may deduct this cost for VAT purposes. An exempt company cannot and the VAT cost is an additional permanent cost of entering into such a lease.

This approach has worked well in the vast majority of cases. However, the Minister has become aware of the exploitation of these rules in the case of broken leases which lead to avoidance of VAT.

A typical avoidance scheme worked in the following manner:

(1) A developer reclaims VAT on the cost of constructing a commercial building.

(2) The developer creates a 35-year lease to a VAT-registered tenant and VAT is accounted for by the developer and reclaimed by the tenant.

(3) After a year, the tenant assigns the lease to a fully exempt company for a nominal premium which is considerably less than the original value of the lease.

(4) The exempt company acquires. the lease virtually free of VAT as VAT is charged on the amount of the premium. If that company had acquired the lease directly from the developer at the outset, VAT would have been paid directly to the Exchequer on the full capitalised value of the lease.

There have been many transactions of this nature over the years and the Bill deals with these by .valuing a surrender of assignment of a lease in the same way as the creation of a new lease. VAT is. then charged on that amount.

As might be expected there are a number of measures designed to counter avoidance of these new provisions. It is likely that these changes will have a significant impact on the cost of sourcing commercial accommodation for VAT-exempt persons.

In the weeks prior to the publication of the Bill, there had been widespread speculation regarding possible restrictions on the availability of capital allowances on the construction costs of hotels.

Much of this speculation has been wide of the mark but one significant change has been introduced. It results in allowances not being granted where investors, usually acting in a partnership, put arrangements in place which when all capital allowances had been claimed resulted in each investor obtaining ownership of a particular room or suite in the hotel.

Those readers who have invested in projects of this nature will be relieved to learn of transition arrangements applying to contracts in existence on March 26th, or where an application for planning permission was received by a local authority before that day.

In my experience, a limited number of hotels have been financed in this way and the measure is unlikely to restrict the development of new hotels in a material way. Investment in hotels remains attractive from a tax point of view, with the requests for changes from many in the sector not being met

The time limit for projects in tax designated areas has been extended to July 31st, 1998, subject to conditions which were widely announced earlier. This extension applies to both capital allowances Jon expenditure incurred and to double rent allowances for tenants.

While these measures are welcome, they fail to address a major problem which arises with large-scale projects. Frequently, the letting of commercial units will take place after construction has been completed.

The measures grant relief for construction expenditure incurred and leases entered into before July 31st, 1998. Developments which are completed before that date but then fail to let will lose a substantial part of the overall relief.

This problem was recognised in the first scheme of designation by permitting a period of up to two years to create leases after the time limit on construction had expired. Unless a similar approach is adopted, it is likely some projects may not go ahead.

Developers and their bankers seek some degree of certainty and will be unlikely to commit to substantial expenditure on large-scale projects if they are under undue time pressure to let property.

The Minister for Finance, should look at the double rent time limit now and amend the Bill to extend the qualifying period for leases to July 31st in the year 2000. This should be tackled now rather than left until next year. At that point, decisions on whether or not to commence a project will have been taken.