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Time to revisit SLA Leasehold Table amid collective sale fever?

23 Apr, 2018

In land-scarce Singapore, every inch of land is critical to the urban planners who strive to meet the infrastructural needs of the nation.

With current collective sales and urban rejuvenation taking place almost at every corner of the country, a substantial amount of tax revenue is collected, which can be used to fund future spending of the Government.

There are two key components to tax revenue when it comes to redevelopment: differential premium (DP), to change the use of the site, and a lease upgrading premium (UP), to top up the lease.

Currently, the calculation of DP and UP relies heavily on the Leasehold Table published by the Singapore Land Authority (SLA), which is used as the standard to convert freehold value into leasehold value, or leasehold values with varying tenures.

The table is also commonly known in the industry as "Bala's Table", the origin of which is unclear. What we know from various documents is that the table was produced around 1948 under the British Colony by a land office employee named Bala.

However, there is little transparency on how exactly the figures in the table are derived.

A closer examination of Bala's Table reveals that the depreciation chart was most likely generated using a discounted cash flow approach, with a discount rate of 3 per cent over the lease period.

The small difference between the actual curve of the Leasehold Table and the curve generated by the discounted cash flow model could be attributed to manual adjustments to round numbers at key years, such as 99 years, 80 years, 60 years and 30 years.

The question now is whether the 3 per cent discount rate is still appropriate in today's context.

Discount rate is often a hurdle rate that seems to reasonably compensate the investor for the risk taken in real estate.

In other words, it should reflect the opportunity cost of the money.

One common approach to determine the discount rate is to start with a risk-free rate, typically the yield of a government bond, and tack on a market risk premium.

Based on a 3 per cent discount rate and a risk-free rate of 2.07 per cent (the five-year Singapore Government Securities yield), the current risk premium for real estate investment is a mere 0.93 per cent, which is evidently inadequate.

In fact, the expected return in real estate is at least 6 per cent for various real estate asset segments over holding periods ranging from five to 40 years. This is, in fact, very much in line with the discount rates used in private sector. In the latest valuations, a 7 per cent discount rate was used for offices in CapitaLand Commercial Trust's portfolio, and a discount rate ranging between 6 per cent and 7.50 per cent was used for offices in Keppel Reit's portfolio.

REVISED LEASEHOLD TABLE AND FINANCIAL IMPLICATIONS

Under the revised Leasehold Table using a discount rate of 6 per cent, the rate of depreciation is significantly slower at the start but accelerates towards the tail-end of the lease tenure. This means a leasehold property with just 30 years balance tenure would be worth 82.6 per cent of freehold value, in contrast to just 60 per cent of freehold value in the current table.

One possible impact is that the pace of collective sales may become more manageable, as owners are less likely to rush to cash out of their properties, especially when buildings are structurally sound.

This could also alleviate concerns that collective sales are pushing new home prices out of the reach of younger Singaporeans.

As the revised depreciation curve is also above the original curve at all balance tenures, it has great implications on the DPs and UPs payable, which can be a game changer in view of the future development of the Greater Southern Waterfront City and redevelopment of the Paya Lebar airbase.

Using the redevelopment of the Golden Shoe Carpark as an example, the developer would have to fork out a higher DP for enhancing the land from transport facilities to commercial use. The difference amounts to an increase of around $176.7 million or 18 per cent higher than the original amount based on the existing Leasehold Table.

The additional tax revenue generated from this could well be an alternative avenue to raising goods and services tax or personal income tax, which can hurt the competitiveness of Singapore.

A revision of the Leasehold Table is clearly long overdue. About 70 years have passed since the initial production of the table. It is perhaps time for SLA to overhaul the Leasehold Table to reflect changing market conditions and bring it into the modern era.

Adapted from The Straits Times, Apr 23, 2018.