Real estate corporations by their nature are tax efficient, but even then, First Capital Realty stands out. Over the past decade the company has paid out just $24 million in income taxes, a tiny amount for a $3.6-billion company.
When put next to the company’s net income before taxes, the company’s tax figure barely registers. In First Capital’s defence, the ratio of its net income before tax to its cash taxes is artificially low because of a change in international accounting rules in recent years. Under the new rules, real estate companies have to account for the current market value of their properties as income, even if they only realize profits when the property is sold (and that doesn’t happen very often). In effect, this inflates the net income figure even though there may be no actual change in the cash coming into the door. “From a tax perspective, there is no change,” says Karen Weaver, First Capital’s CFO. “It’s based on the value the asset was when it was acquired.”
Still, the company pays very little in the way of income taxes. Even if you discount the impact of Canada’s switch to the IFRS accounting standard, the company hasn’t paid a cent in cash-taxes for three years. There are many reasons for this. Like all real estate firms, First Capital benefits from ploughing investment capital into its properties. First Capital is particularly aggressive on this front with about a third of its properties always under development. This all helps lower its tax bill since a portion of those costs can be expensed right away while the remaining costs can be claimed as future capital cost allowances.
Another factor that lowers the company’s tax bill is its unique convertible debentures strategy, says Alex Avery, an analyst with CIBC. “They don’t actually pay any interest or principal in cash, they pay it in shares.” This creates a tax deduction for the company, although the interest income is taxed in the hands of the debt holders. “It’s so unique I’m not aware of any other company that does it.”
Finally, First Capital has also benefited from tax loss carry-forwards. “We had a bunch of cash tax carry-forward when this management company took over this company in 2000 and, to put it gently, those were courtesy of the previous management team,” says Weaver.
That’s not to say First Capital doesn’t pay any tax. Property tax isn’t counted in the cash taxes figure. That’s a big tax hit for real estate companies, but especially so for First Capital, given many of its assets are in urban markets, which have some of the highest property tax rates in the world.