The bill to amend the Personal Income Tax Act, the Corporate Income Tax Act and other acts published on 26 July 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 tax costs from depreciation.
Real estate company
The Polish Deal would not change the definition of a real estate company. It would continue to mean an entity other than a natural person, required to maintain a balance sheet under accounting regulations, in which:
- In the case of entities beginning operations:
- As of the first day of the tax year (or if it is not an income tax payer, the first day of the financial year), the market value of real estate in Poland or rights to such real estate represented, directly or indirectly, at least 50% of the market value of its assets, and
- The market value of such real estate exceeded PLN 10 million (or the equivalent at the average exchange rate published by the National Bank of Poland for the last business day before that date).
- In the case of other entities:
- As of the last day of the year preceding the tax year (or the financial year, if it is not an income tax payer), the balance-sheet value of real estate in Poland or rights to such real estate 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 tax year or financial year (as the case may be), the taxable income (or if it is not an income tax payer, the revenue recognised in the net financial result) from real estate (i.e. for lease, sublease, tenancy, subtenancy, finance lease, or similar contracts, or from the transfer of ownership of real estate or rights to real estate, or from shares in other real estate companies) constituted at least 60% of the total taxable income (or revenue recognised in the net financial result, as the case may be).
Depreciation of real estate in a real estate company as tax costs in 2021
The current law does not contain specific rules for determining tax costs for depreciation by real estate companies. Thus depreciation of real estate held by real estate companies can reduce taxable income under the same general rules set forth in the income tax acts as depreciation of other fixed assets (subject to the relevant rate or depending on the selected depreciation method).
Depreciation of real estate in a real estate company as tax costs in 2022
The bill introducing the Polish Deal includes significant restrictions—at least for some real estate companies—on deduction as tax costs of depreciation on their real estate. Under the proposed amendment to CIT Act Art. 15(6) and PIT Act Art. 22(8), deductions for fixed assets included within group 1 of the Classification of Fixed Assets (and thus most categories of real estate) of real estate companies (and only real estate companies) could not be higher for the tax year than the depreciation on fixed assets made in accordance with accounting regulations, chargeable during the tax year to the unit’s financial result.
These limits would not affect the right to accelerated tax depreciation of brand-new fixed assets acquired by a real estate company (CIT Act Art. 16k(14)) or the right of a real estate company that is a small taxpayer or taxpayer launching its business operations to take one-off depreciation of fixed assets (CIT Act Art. 16k(8)).
Accounting treatment of real estate of a real estate company
If the proposed regulations enter into force, the tax-deductible costs for depreciation of real estate (falling within group 1) of real estate companies could be no higher than the depreciation on such properties 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 pointed out that the proposed rule would allow depreciation deductions on real estate (falling within group 1) of real estate companies at a level no higher than the depreciation for accounting purposes. Consequently, the tax depreciation could be lower, and thus, from the year when such property is fully depreciated for accounting purposes, there would cease to be depreciation deductions on the property constituting deductible tax costs. The undepreciated tax value of such property could then be recognised as a deductible cost only upon the eventual sale of the property.
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 distinct category of taxpayers.
Real estate developers
For example, real estate companies operating as real estate developers would essentially be unaffected by the new rule (if it enters into force). The properties they develop are typically earmarked for sale within a period of less than one year, and thus most often do not constitute fixed assets subject to tax depreciation.
Thus the regulations on the levels of tax depreciation of real estate generally do not apply to developers, and the proposed changes would not impact their income tax.
Companies holding rental properties
However, the change could impact for example real estate companies holding real estate (falling within group 1) which they use in their core operations, e.g. lease of commercial real estate.
In their case, a reduction of the accounting depreciation rate, as compared to the tax depreciation rate (in particular due to the need for an individualised value of such property for accounting purposes which should reflect the actual period of economic usefulness of the real estate, including for example in light of rising market prices for real estate), would automatically also result in a reduction in the tax-deductible costs for depreciation of the real estate.
Companies holding investment properties
Even more so, the change could affect the deductible depreciation costs of real estate companies for real estate classified for accounting purposes as investment properties. This is because they are subject to revaluation (including for impaired value), which is not, however, a consequence of applying the depreciation rate (in the sense of the total accumulated depreciation taken). Thus the value of the accounting depreciation on those properties, which would set the maximum level of deductible costs for tax depreciation, would be zero.
Consequently, determining the treatment of real estate of such companies for accounting purposes, in particular as investment properties, among other things, will be crucial for determining the tax consequences of the proposed limitation on costs for depreciation on real estate held by real estate companies.
Art. 3(1)(17) of the Accounting Act defines “investments” as “assets held by the unit for the purpose of obtaining economic benefits from them arising out of an increase in the value of the assets, generating revenue in the form of interest, dividends (participation in profit) or other benefits, including from a commercial transaction, and in particular financial assets as well as real estate and intangibles which are not used by the unit but held by it with the purpose of obtaining such benefits….”
In turn, under International Accounting Standards (IAS 40—Investment Property), “investment property” is defined as property (land or a building or part of a building or both) held (by the owner or by the lessee under a finance lease) to earn rentals or for capital appreciation or both. In addition, property is not investment property if (among other things) it is:
- 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 investment property:
- Land held for long-term capital appreciation, and not for sale in the short term in the ordinary course of business
- Land held for a currently undetermined future use (if the unit does not plan to use the land as owner-occupied property or intend to sell it within the short term in the ordinary course of business, then the land is deemed to be held for capital increase)
- A building owned by the unit (or acquired by the unit under a finance lease) leased out under an operating lease
- A vacant building held to be leased out under an operating lease.
Joanna Prokurat, tax adviser, Tax practice, Wardyński & Partners