I recently had an opportunity to discuss challenges facing the real estate sector with a number of sector luminaries, including Tom Rothfischer, National Leader of KPMG in Canada’s Building, Construction & Real Estate practice. We talked about how economic pressures, supply-chain delays and regulatory constraints mean that, although the worst effects of the pandemic are abating, it’s certainly not back to business as usual. However, despite the difficulties and delays, what shone through in the conversation is that there are some actions industry players can take now while waiting for the challenges to ease.
ESG: the new normal
It’s not easy being green, but these days investors and providers of capital are requesting ESG data from real estate companies, and buyers and tenants are seeking building and landscape designs that are sustainable, socially responsible, and less expensive to maintain over time. As Tom pointed out in a recent blog post of his own, if your real estate company hasn’t already implemented a cohesive, rigorous and proactive ESG strategy and reporting process, you are risking your chances of remaining competitive, compliant and attractive to investors.
Here at KPMG, our own Sustainability practice has been tracking the evolving regulatory requirements. They’ve observed that the number of net-zero targets continues to grow, the myriad sustainability reporting frameworks are becoming consolidated, and regulatory risks are increasing. Further, within Canada, the number of initiatives related to both voluntary and mandatory disclosure of buildings’ energy performance is increasing.
From my perspective, with sustainability being a common goal not just across the sector but across all of society, it’s the perfect time for different players in real estate to come together. Innovative ideas can be shared, and synergies created. Keep an eye out for government incentives, too. Support for ESG and sustainability is continually gaining momentum; with collaborative efforts, our industry can be stronger for it.
Changes in ownership
Have your real estate conversations with friends and family become, like mine, somewhat circular? High inflation and rising high interest rates can raise more questions than answers about when and how to conduct your housing market transactions, especially in Canada’s urban centres. The cost of housing supplies, and the low number of homeowners putting their houses on the market, have contributed to a relatively quiet period for generating real estate supply in recent months. While there is mounting urgency to create more housing—owing, in part, to the number of people emigrating to Canada—buyers and investors are also seeking higher quality and quantity of new construction, which takes time and adds cost. Inflation and interest rates are bound to change; for now, we need to watch the effects of a couple of regulatory matters.
First, recent measures will temper foreigners’ opportunities for property ownership in the short-term. If you reside outside of Canada but have an interest in Canadian property, it’s important to note that a two-year moratorium on foreign ownership in Canadian residential property took effect on January 1, 2023.
Second, here in British Columbia, there’s a relatively new initiative called the Land Owner Transparency Registry (LOTR). The first of its kind in the country, the LOTR is a public registry of individuals with an indirect interest in land as defined in Section 1 of the Land Owner Transparency Act (LOTA). The purpose of LOTA is to end “hidden ownership” of land in British Columbia. As defined by the Land Title and Survey Authority of British Columbia, “when an application is made to register an interest in land as defined in section 1 of LOTA a transparency declaration must be filed by the transferee(s). A transferee that is a reporting body must also complete and file a transparency report.” If you are a reporting body with an existing interest in land, your deadline to file a transparency report was November 30, 2022; if that was not completed on time it must be done immediately, since non-compliance will be penalized or classified as an offence by the provincial government.
In my conversation with real estate leaders, we noted that these regulations may be harbingers of a more prescriptive period to come.
Homing in on zoning
Zoning regulations differ greatly around the world. On the home front, some municipal regulations are coming under closer scrutiny. For example, with many people now working from home or other locations more often than they work from a downtown office, new uses for commercial office space are being considered. As recently as the end of November 2022, for example, the Chamber of Commerce in Vernon, BC, proposed unused office space in that city be converted into residential units, joining many urban centres who are re-evaluating which structures can be re-purposed. Just as many of us looked at ways to adapt our living spaces to accommodate a greater variety of home-based activities while weathering pandemic lockdowns, conversions of existing urban and industrial buildings are now front and centre.
Since financing costs are a significant component of real estate development, it’s important to plan ahead with respect to how legislation on the Excessive Interest and Financing Expenses Limitation (EIFEL) will affect your business structure. The draft EIFEL legislation has been in place since February 2022, but I can report that there is now some clarity in how to apply the rules.
For taxation years starting on or after October 1, 2023, there is a limit of 30 per cent of “Tax EBITDA” (adjusted taxable income) on deductible interest and financing expenses. (In some circumstances, a transition period applies until January 1, 2024.) The objective of the 30 per cent limit is to address the situation where taxpayers are deducting excessive interest and other financing costs, principally in the context of multinational enterprises and cross-border investments. The Department of Finance Canada welcomed feedback on this draft legislation until January 6, 2023.
There are changes, too, to the Foreign Accrual Property Income (FAPI) rules. Taxpayers who are residents of Canada are obligated to report FAPI earned in controlled foreign affiliates. Whereas the previous scenario allowed taxpayers to deduct four times the amount of foreign taxes paid, in the new scenario the relevant tax factor has been dropped from four to 1.9 for Canadian-controlled private corporations. This new legislation takes effect for taxation years starting after April 7, 2022.
A developing story
Real estate leaders agree that our sector is going through a period of taking stock, assessing what has and what hasn’t worked fiscally and socially. I take heart in our capacity to innovate as we enter a new period of collaboration: finding synergies in ESG efforts across the sector, re-imagining uses for live-work and commercial spaces, examining the potential of more flexible zoning requirements, and investing in developments that offer a greater return on investment for owners, property managers and tenants alike. I look forward to keeping you up to date on the sector’s progress.
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