DRASTIC PROPERTY CHANGES ANNOUNCED
The Government announced yesterday significant tax changes aimed at cooling off the overheated residential property market. Whilst time will tell how good or bad these will be, we may be able to assist you in negating their impact on your taxable income.
The announced measures include extending the brightline rule from five to ten years and to deny interest deductions for all residential property investors. The latter is by far the more alarming proposal as it goes against the core principle of the Income Tax Act 2007 which allows a deduction for expenditure incurred in the course of deriving income.
It is proposed that the interest deduction will be disallowed from 1 October 2021 for all residential property acquired on or after 27 March 2021. This also extends to interest deductions for money borrowed after 27 March 2021 to maintain or improve property, even if the property was acquired before 27 March 2021.
Denied Interest Deduction
For properties acquired before 27 March 2021, it is proposed that interest deductions will be phased out from 1 October 2021 over next four years by 25% each year. No interest deduction will be available from 01 April 2025. This measure is likely to have a significant impact on the after-tax profit from rental activities and the net cash position for the Taxpayer.
It is noteworthy that whilst Government went ahead with introduction of these changes the Treasury advised the government against introduction of these measures without proper consultation and analysis.
Doubling the Brightline Test
Currently the bright-line test imposes income tax on gains derived from the disposal of residential property within five years of acquisition (if the property was acquired after 28 March 2018), unless exceptions apply (such as if the residential property is the taxpayer’s “main home” or if it is inherited property). The bright line period will double from five to ten years.
The new 10-year period will apply to residential property acquired on or after 27 March 2021, unless an offer was made before 23 March 2021 that was irrevocable before 27 March. If the property is sold within 10 years of acquisition (unless exclusions apply), any gains will be taxable. In case of New-Builds the brightline period will remain five years.
The “Main Home “exclusion was also subject to an amendment. Currently the main home exclusion applies to the property if it is used as a main home “for most of” the bright-line period. The new section CB 6A changes the Main Home Exclusion so as to only exempt the entire proceeds from the brightline test if it was used as main home for the entire period the property was owned. If for example the home was rented for 25% of the period of ownership, then 25% of the gain will be taxable.
What can be done?
Whilst the measures proposed in relation to interest deductions may seem draconian in principle there is often the opportunity to restructure debt so that interest deductibility can be achieved. Such opportunities usually exist where the taxpayer has other income earning assets or own their own business. We suggest you contact us if you have significant borrowings in relation to residential land so we can determine what steps may be taken to preserve interest deductions.
If you have any questions please do not hesitate to ask any of us.
Your team at Roberts & Associates Ltd
Email: [email protected]
 The Treasury “Tax measures to moderate house price growth – extension of the bright-line test” Regulatory Impact Statement (5 March 2021), see treasury.govt.nz