Melbourne's property market is on the verge of a transformative period, as game-changing tax reforms and the emergence of Build-to-Rent (BTR) housing gather momentum.

In this article from Property Partner James Christodoulakis, we look into the detail of the tax reforms introduced to support the development of BTR housing, and explore the potential impact of it on Melbourne's property industry.

Background

Shortly before the stamp duty reforms introduced by the Victorian State government in its 2023 budget, the Federal government announced some changes to the taxation legislation that support the emergence of BTR housing as a significant trend.

BTR refers to purpose-built residential properties designed specifically for long-term rental, offering tenants high-quality amenities and professional management. This alternative housing model has gained traction overseas and is now taking hold in Melbourne.

BTR developments provide several advantages for both investors and tenants.

For investors, BTR projects offer stable, long-term income streams, reduced vacancy rates, and economies of scale. Increasing institutional investment in BTR is attracting major players, such as super funds and international developers, who see the potential for strong returns in the Melbourne market.

On the tenant side, BTR housing offers a flexible and convenient lifestyle, with the benefits of professional property management, on-site amenities, and long-term security. The rise of BTR properties addresses the growing demand for rental options in Melbourne, particularly among young professionals and families who seek quality, well-managed housing without the burden of home ownership.

Proposed Federal and State Taxation Changes Support BTR Developments by International Institutional Investors

The Australian Government announced the following proposals 28 April 2023:

• Reduce the withholding tax rate for eligible fund payments from managed investment trusts to foreign residents attributable to build-to-rent properties from 30% to 15% starting July 1, 2024. This reduces the tax paid by foreign resident investors on the eligible distributions they earn from investments in BTR properties and is designed to increase investment into the sector.
• Increase the capital works deduction rate for eligible build-to-rent properties from 2.5% to 4% per year.

These incentives will apply to build-to-rent properties constructed after 9 May 2023 that feature a minimum of 50 dwellings available for rent to the public. As part of the proposed changes, the government wants the properties to be owned by a single entity for at least 10 years, and a lease term of at least 3 years must be offered for each dwelling.

This announcement addresses the concerns of property sector participants who view the current rate of 30% as a significant barrier to investment in build-to-rent properties in Australia versus other viable locations around the world.

Details regarding the incentives, such as the minimum proportion of affordable housing and the required duration of single ownership, will be subject to a period of consultation as yet unannounced by the Federal government.

In Victoria, BTR incentives have been legislated and are in effect.

Build-to-rent developments may be eligible for:

• a 50% reduction in land tax
• exemptions from the absentee owner land tax surcharge of 2%.

To access these incentives, BTR developments need to meet a variety of criteria including:

• the BTR dwellings must be new or substantially renovated
• the BTR dwellings must have been constructed or renovated for build-to-rent purposes
• there must be at least 50 self-contained residences (aligns with Federal requirements)
• the property must be owned collectively and held within a unified ownership structure
• the property must be managed by a single entity
• the occupancy permit for the dwellings must be issued on or after 1 January 2021 and before 1 January 2032
• the dwellings must be available for rent to the general public without restriction under residential tenancy agreements
• a lease term of at least 3 years must be offered (aligns with Federal requirements)

If the owner fails to continuously use and occupy the land as an eligible build-to-rent property for at least 15 years, it will be liable for a tax called the BTR special tax, which is intended to recoup the financial advantage provided by the incentives.

The exemption from the absentee owner land tax surcharge is only available when construction is completed however an exemption from the absentee owner land tax surcharge may be available for Australian based entities during the period of construction if the build-to-rent property is deemed to “make a significant contribution to the Victorian economy and community” and the entity exhibits “good corporate behaviour”.

Additional exemptions for Australian based entities from the foreign purchaser additional duty of 8% if the build-to-rent property is considered to significantly add to the supply of housing stock in Victoria.

Conclusion

Recent tax reforms supporting the development of BTR housing is expected to have a considerable impact on Melbourne's property market. These developments will attract new investors, drive construction activity, and enhance housing affordability for a wider segment of the population.

Partner James Christodoulakis has considerable experience managing the various and complex legal aspects in the development of large residential property projects, from drafting heads of agreement documents through to the preparation of bespoke leasing agreement templates. His practice also extends to addressing the many taxation considerations inherent with a BTR project for domestic and international investors.