Croatia’s planned property tax to dent yields, incentivise local govts to improve public services – JLL

“While many property investors may be tempted to pass on the additional tax liability to tenants through higher rents, on the backdrop of subdued market conditions when tenants have stronger bargaining power, competition among landlords may make this very difficult to implement,” Fabijan Matosevic, senior surveyor at the local office of real estate consultancy Jones Lang LaSalle, told SeeNews in an email.

In late November, the Croatian government said it is proposing a property levy aimed at aligning the country's tax code with that of the EU which it will join in mid-2013.

The plan is to start enforcing as of the last quarter of 2013, a tax of 1.5% on 70% of the estimated fiscal value of the respective real estate property. The taxable percentage of a residential property's value will vary, depending on whether it is occupied or not and when it is occupied whether it is on permanent or occasional basis. For commercial properties, the taxable percentage will depend on the type of business or activities they are used for.

On the upside, Matosevic said, at least judging by the initial draft of the law tabled for public discussion, since the revenue from the mulled property would go to the local authorities to be spent on infrastructure and utility services, the move has the potential to incentivise local governments to provide high-quality public services in an independent, more transparent manner since in the long term property owners will now be able to vote with their feet and move to more beneficial locations.

“Greater accountability on the part of local authorities, better value-for-money public services and improved transparency go hand-in-hand with a well-functioning, mature property market.”

For these reasons, the expert is confident the proposed levy is set to improve the national property market to the extent that it will lure investors who were wary of the previous lack of transparency and accountability and will - once the law is passed and its effects are known, lower the risk premiums for investments in Croatia.

Focusing on the likely impact of the tax on the commercial property sector, Matosevic said that the effect on property valuations, while impossible to accurately predict due to the early stages of the legislative process and the ambiguity over the definition and meaning of "fiscal value", will greatly depend on the performance of the asset.

“The tax will act as an additional motivator to owners of poorly performing assets to sell their holdings. For these assets, prices may fall somewhat as owners attempt to reduce their running costs.”

If a one-size-fits-all tax rate is indeed applied across all segments of the property market as is currently proposed, the expert sees high-yielding/low-value properties gaining a better comparative advantage relative to investments in low-yielding/high-value assets.

“This is a direct consequence of the nature of value-based taxation and its impact on cash flow and, consequently, on the rates of return. At set gross, pre-tax yield levels, a single, value-based tax may double the relative attractiveness of investing in high-yielding properties - both across and within a market segment - relative to low-yielding ones as measured very crudely by the internal rates of return for a given investment,” Matosevic said.