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Rental Properties, Bright-line Tests & Interest Deductions

Rental Properties, Bright-line Tests & Interest Deductions

For decades, owning a rental property has been the backbone of many a kiwi family’s retirement plan. In some cases, leveraging the equity in their own homes, landlords have bought properties with no money down. In the last ten to fifteen years, strong growth in house prices has put political pressure on successive Governments to make housing more affordable. The primary tool used by all of the main political parties has been to make rental property investment less attractive, thereby encouraging investments in other areas.

On 23 March 2021, the Government announced the most recent changes to the rules for landlords. The two main changes are the extension of the bright-line test from five years to ten years and the removal of the tax deductibility of interest for rental properties.

Brightline Test

On 1 October 2015, the “Bright-line test” was introduced for property owners. At the time this meant that if you sold land less than two years after you bought it you had to pay tax on any equity gains you made in the property; the family home being exempt from this rule.

From 29 March 2018 this was changed to five years, and now, from 27 March 2021 onwards, this has been extended to ten years.

Apart from your family home, if you now buy residential land and sell it less than ten years later, you will pay tax on the equity gains from the property. Currently, the proposed change will let newly built houses have a five year “Bright-line test” though the details for how this would work in practice have not yet been finalized.

It is important to note that the family home may not always be exempt.

If the family home is owned by a trust where the people living in the house are not the settlors of the trust, it probably won’t be exempt.

If the family home is rented out for a year or two while the owners are overseas and then sold less than ten years after it was bought, it would only be partially exempt from the “Bright-line test”.

More information about the proposed changes is available from the IRD website.

Key Take Away Message

If you buy a property after 26 March 2021 you may have to pay tax on the equity gains if you sell it less than ten years later.

If you bought a property after 28 March 2018 you may have to pay tax on the equity gains if you sell it before the five years is up.

If you are thinking about selling a property and are unsure whether you will be subject to the “Bright-line test” or not, please contact us before you commit to selling it. These rules apply to everyone, not just landlords.

Interest Deductibility

From 1 October 2021 interest will no longer be tax deductible for money borrowed after 27 March 2021 for rental properties. This includes new loans for renovations and repairs to existing rental properties. The tax deductibility for existing loans on rental properties bought before 27 March 2021 will be reduced to 75% on 1 October 2021, then to 50% on 1 April 2023, then to 25% on 1 April 2024 and finally from 1 April 2025 no tax deduction will be allowed for the interest expense on rental properties.

An exemption to this rule was announced for new builds however the details about what constitutes a new build has not yet been finalized.

More information about the proposed changes to interest deductibility is available from the IRD website.

Key Take Away Message

From 1 April 2025 the interest expense for rental properties will no longer be tax deductible, except for new builds. If you bought an existing property after 27 March 2021 or took out a new loan for repairs and maintenance, then interest will no longer be deductible from 1 October 2021 onwards.

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Do I really need an accountant?

Do I really need an accountant?

In New Zealand we have a number 8 fencing wire mentality. Why pay someone to do something that you can do yourself…? Often this thinking goes together with truisms such as “She’ll be right, mate”. When it comes to doing tax returns, it can be easy to take the same approach. After all, how hard can it be to add a few numbers together and file a tax return with IRD?
Here are four reasons why you should consider using an accountant.

1. What is your time worth?
Some people will spend hours, or even days, working out how much profit their business has made in order to complete their tax return. Few people, if any, enjoy doing this. Try multiplying the number of hours spent doing your own tax returns by your charge out rate. It is probably more efficient and cheaper hiring an accountant to do this for you.

2. Money – What is a dollar worth?
Accountants specialize in preparing financial accounts and tax returns every day. They have a good idea about what exactly can be claimed. Since the current Income Tax Act came into force in 2008 Parliament has changed it more than 130 times. That’s about ten changes to the Income Tax Act every year. Accountants specialize in this area; keeping current with the ever-changing tax law as it happens. Put simply, accountants know what can be claimed and what cannot. Some of those things might surprise you.

3. Compliance – We don’t know, what we don’t know.
When it comes to the law, ignorance is not a defense. If you make a mistake with your tax return the
penalties can sometimes be harsh. We regularly see clients claiming expenses for things that cannot be claimed, claiming GST when no GST can be claimed and not correctly accounting for “perks” (such as personal use of a “business” car). Some business expenses can be fully claimed, some partially claimed some must be spread out over several years, and some, while still valid, cannot be claimed at all. It is dangerous to think that just because you spent money on a “business” expense, you can claim it all back in your tax return. Accountants specialize in this area. They know what can be claimed and how much.

4. Peace of Mind
As human beings we often find we have a slight nagging feeling in the back of our minds, when doing
things outside our comfort zone. This can be especially true when it comes to dealing with government departments such as IRD. If you use an accountant you will save time, you’ll probably save money, your tax return will certainly comply with the law, but more importantly, you will have peace of mind knowing that someone who specializes in this area is dealing with the IRD on your behalf.

If you have any questions about your business or tax obligations, please contact us for help.

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