The rapid growth of Chinese outbound real estate investment
Chinese outbound investment into real estate increased to US$8.3 billion in 2013 (including a 124% increase to US$7.6 billion in commercial real estate) with the UK and USA commercial real estate markets being the biggest targets for investment. Taxand discussed global real estate trends and the future of Chinese real estate investment into the UK and USA at the Taxand Global Conference hosted by Taxand China in Shanghai today.
The UK and USA commercial real estate markets attracted most capital from China in 2013 (UK: US$2.3 billion and USA: US$3.1 billion). While the office sector is the preferred asset class for overseas investments (85% of all 2013 transactions) there is growing demand for retail, hotels and residential land development from Chinese investors. However, there are barriers to outbound direct investment, both within China and in destination countries. As such, investors need to put in place effective structures from both a legal and tax perspective.
Structuring Chinese real estate investments in the UK
There are several challenges associated with investing in commercial real estate in the UK, including the navigation of transfer taxes on the acquisition of assets, which vary according to the type and value of the asset. There are also tax rates of 21% on rental income with deductions for capital allowances and interest payments and 21% on the taxation of gains. However, the UK has purposefully and transparently structured its arrangements to increase the attractiveness of the country for foreign real estate buyers, boosting the activity in this arena. Holding company structures can be used to provide tax benefits; for example, an effective 0% UK capital gains tax is possible via dividends paid by the holding company.
Again, with residential real estate, there are issues with investing directly rather than via a holding company such as an immediate tax charge and a UK income tax payable at 20%. For Chinese companies, an annual tax on enveloped dwellings (ATED) may apply as could capital gains tax on disposals. Using a holding company would mean that the non-resident landlord regime applies but it should be possible to obtain a deferral on Chinese tax.
Structuring Chinese real estate investments in the USA
China are big buyers into the USA, particularly in Real Estate. This trend began in residential, but is increasingly moving into the commercial space. In the USA, there are several structures available for investing including the foreign corporate blocker structure which can yield tax reductions from 30% to 10% if you meet the requirements under the USA - China Income Tax Treaty.
Another common structure falls under the REITS regime where international treaties provide a reduction in the U.S. tax imposed on dividends. Interest payments to Chinese investors should also be exempt from withholding tax pursuant to the portfolio interest exemption.
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Looking forward to 2020, we believe that China’s outbound investment into real estate will continue to rise and could even reach around US$100 billion. The UK and USA will undoubtedly remain key markets for investment, though we are likely to see a decline in the use of traditional tax strategies like indirect sales, with a growing dominance of structures such as REITs.