Tax tips for investing...

Contined from Page 19

The Ruling issued by the Tax Office (Rul/2005/IT/0012 issued on 8th July 2005) in this regard is as follows.

“A loan taken from a Bank to repay a housing loan previously obtained from another Bank could be treated as a loan the proceeds of which are utilised for the purchase or construction of a house, if it is proved that the money has been transferred direct from Bank to Bank together with relevant security documents”.

b) Housing Loans by professionals

A professional seeking funding facilities from a financial institution should be mindful that interest on housing loans paid by him or her is taxed on the recipient bank only at a 50% of the reduced income tax rate i.e bank will be only be called upon to pay tax at the rate of 14% while the standard tax rate is 28%. Hence the bank stands to get a benefit from granting loans to professionals vis a vis others. As such professionals should be mindful to negotiate a lower interest rate on their housing loans comparative to the rate offered by the bank. Some of the banks in Sri Lanka do have a special rate for the professionals due to this tax incentive. The professionals who fall within the ambit are as follows.

“a doctor registered under the Medical Ordinance (Chapter 105), a chartered engineer, a chartered architect, a member of the Institute of Chartered Accountants of Sri Lanka, a member of the Association of Chartered Certified Accountants, a member of the Chartered Institute of Management Accountants (U.K.) and an attorney-at-law, and includes a software engineer, a pilot licensed under the Air Navigation Act (Chapter 365), a navigation officer and a researcher or senior academic, recognized as an accredited professional”.

In addition to the above, the same category of professionals defined above is also entitled for a qualifying payment relief in computation of the income tax liability for the repayment of capital of the housing loan obtain from a bank or finance company up to Rs 600,000/-. Therefore any of the professionals (defined above) will be entitled to obtain an interest deduction and a deduction for the capital component for the housing loan installment.

c) Migrant workers funding acquisitions

Sri Lankan migrant workers and foreigners have the opportunity of raising loans outside Sri Lanka for low interest rates to fund acquisition of apartments and houses in Sri Lanka. However, such interest paid to financial institutions outside Sri Lanka is not available as an income tax deduction in Sri Lanka even if such acquired properties would generate income in Sri Lanka. If such properties generate income to expatriate or foreigners residing outside Sri Lanka such income would attract taxes in Sri Lanka under the relevant double tax treaty, foreigner may be able to invoke the double tax treaty to eliminate double taxation. i.e taxation in Sri Lanka and the home country.

The deductibility of interest is not available on foreign loans due to the impact Section 32 of the Inland Revenue Act wherein a stipulation exists that the recipient of such interest should declare their income in Sri Lanka.

d) Expats funding acquisition

Foreigners may route the funding for purchase of condominium properties above the 4th floor via any type of bank account including Securities Investment Account (SIA).

The Gazette notification 1814/39 read in conjunction with the direction issued to the banks dated 12th June 2013 states that the sales proceeds including capital gains could be repatriated via any account subject to ascertaining proof of inward remittance for the acquisition and development of property.

f) Shariah followers funding via Diminshing musharaka

The followers of Shari’ah principles do not resort to conventional financial instruments such as interest bearing loans for funding acquisitions. Hence the issue arises whether the alternate financial instruments such as Diminishing Musharaka (DM) arrangements with financial institutions would provide the same tax benefit in the form of income tax deductibility for the users of such instruments. DM is an Islamic finance instrument by which followers of sharia principles acquire property by payment of the consideration on installment basis sans payment of interest and violating the core principles.

Though in the past Tax Assessors at the Department of Inland Revenue tend to dispute the invoking of the right to deduct the appropriate quantum of the payment to the financial institution under a Diminishing Musharaka (DM) arrangement for income tax purposes, with the Amendment introduced to the Inland Revenue Act in 2011, DM customers now have the same right as borrowers of conventional housing loans to enjoy the income tax benefit for DM obtained for the purpose of purchase of an apartment, house or a land for construction of a house. However customers of financial institutions utilizing DM also are exposed to other restrictions referred to above (The appropriate quantum of payment would not be available as a tax deduction against income from employment but only against the other sources)

Earnings from property

An immovable property acquired may be used by the acquirer for his or her own residential use or to conduct a commercial venture such as an operation of a business in the premises. Alternatively the property could be let out on lease terms to earn lease rentals or re sold to achieve a profit or gain. However for income tax purposes the income streams from property are two folds. Rent income from property Net annual value of property owned and occupied

The readers should be aware that a person would be called upon to pay income tax under the concept of net annual value in relation to property including a house or apartment even if such house or apartment does not generate any income for the person if such house is owned and occupied by him. However, the law provides for an exemption for one such property for place of residence owned and occupied on or behalf of the individual.

Leasing of houses and apartment

Leasing of immovable property to locals and foreigners attract the same tax conse- quence and today in Sri Lanka there is no additional Land Lease Tax payable where the immovable property is being leased out to foreigners irrespective of the period of leasing. Moreover any property could be leased to a foreigner including condominium units in any of the floors. Stamp Duty stemming from Stamp Duty (special provisions) Act is payable on an indenture of a lease calculated at the rate 1% of the value of the total rental for the lease period. However a relief is available for stamp duty on long term leases where the period exceeds 20 years in that maximum stamp duty charge is restricted to the rental applicable for the first 20 years of duration of lease.

The Inland Revenue Act provides a formula for calculating the income tax liability from rental income. If the gross rental is higher than the net annual value, the income tax liability is computed by reducing rates and maximum of 25% of the net rent (gross rent income – rates) on account of repairs incurred by the owner (the concept of net annual value refers to a hypothetical amount that a tenant is expected to reasonably pay during a year).

As leasing of residential accommodation is free from VAT, houses and condominium units let out for residential purposes would not expose the investor for any VAT obligations such as registration for VAT, raising VAT invoices and filing VAT Returns. These obligations would ensue only if the property is let out for commercial purposes.

On the other hand if the turnover of the person exceeds Rs 3M per quarter (the proposed threshold while the current threshold is Rs. 3.75M a quarter) irrespective of whether the house / apartment is leased out for residential or commercial purposes, the lessor would have to register and file NBT returns.

Sale of immovable property entails stamp duty payable to the respective provincial councils at the rate of 3% on the first Rs 100,000 and thereafter 4% on every 100,00 or part thereof.

Miscellaneous points

In addition to tax costs transactions involving immovable property also entail fees for the brokers as well as the Notaries. Whilst Brokerage fee for a transaction is not regulated by law, the fees to be charged by the Notaries is referred to in the Notaries Ordinance. Typically, a broker may charge 3% of the value for a sales transaction (from seller) and one month rental for a leasing arrangement normally (from lessor).

As of present there is no capital gains tax in Sri Lanka in relation to real estate properties or any other properties. However there are indications that capital gains tax maybe introduced in Sri Lanka in the near future.