By Luke Paerata - September 2018
In Easy Park Limited v Commissioner of Inland Revenue  NZCA 296, the Court of Appeal has affirmed that a lease surrender payment to a professional landlord is a revenue receipt under the Income Tax Act 2007 (“ITA”).
The case concerned a commercial landlord who received a payment from a tenant to allow an early termination of a lease. The Court affirmed an earlier High Court ruling that, as the landlord was in the business of leasing property, the receipt arose from the landlord’s ordinary business activities and was therefore a revenue receipt subject to tax.
The decision provides assistance in distinguishing between capital and revenue receipts.
Easy Park Limited (“the Landlord”) leased part of its building at 312 Lambton Quay, Wellington to Whitcoulls Group Limited, originally, and then to Whitcoulls 2011 Limited (“the Tenant”) by assignment.
In June 2011, the Landlord and Tenant agreed to an early termination of the lease on the basis that the Tenant would pay the Landlord $1.1 million (being approximately a third of the remaining rent).
When the Landlord filed its tax return for the 2012 financial year, it treated the payment as a capital receipt not subject to income tax. The Commissioner of Inland Revenue (“the Commissioner”) assessed that the payment was revenue, that the Landlord had taken an unacceptable tax position, and that, accordingly, a shortfall penalty was payable in respect of the tax.
In the High Court, Ellis J upheld the Commissioner’s classification of the payment as revenue, primarily because it was received in the course of the Landlord’s ordinary business. The payment could not be treated as capital as, from the Landord’s perspective, the reversion of the lease was temporary and did not create an asset or enduring benefit. The Judge observed that the reversion of a lease may create such an asset or benefit in two scenarios (which did not arise here):
Ellis J quashed the Commissioner’s imposition of a shortfall penalty, finding that the tax position was not “unacceptable” under the ITA.
The Court canvassed the general principles relating to the distinction between capital and revenue payments and receipts, and in largely following the reasoning of the High Court, disagreed with the Landlord’s appeal submissions.
Primarily, the Landlord argued that as consideration for the lease was factored into the Landlord’s original purchase of the building, the lease and the building constituted one identifiable capital asset in accordance with the “identifiable asset” test established in Regent Oil Co Ltd v Strick (Inspector of Taxes)  AC 295 (“Regent Oil”).
The Court rejected that argument, as:
The question of the shortfall penalty did not arise on appeal.
This case provides a reminder that a lease surrender payment to a landlord will generally be treated as revenue, not capital.
Luke is a Solicitor in our Property Team and can be contacted on 07 958 7449.