GST on Property Transactions – Compulsory Complexity
GST is easy – it’s 15%, 0%, or wrong.
GST is the most common thing that goes wrong in property transactions, due to a widespread lack of understanding by registered parties and professional advisers. This is not for lack of effort or respect for the law, but because the legislation is complex and a forever-changing landscape.
Many people think that transacting a property as “plus GST if any” is a safeguard that will resolve all issues, but I have seen many cases where that is in fact not the case and has created a bigger problem. I also often hear that the parties have “elected” to charge and pay GST instead of using the zero-rating rules. This is not allowed by the legislation. The compulsory zero-rating rules are just that: compulsory. There are rules which set out what must happen if a property is incorrectly zero- or standard rated, and the impact will usually fall back on the purchaser.
In 2011, legislation was introduced to make the zero-rating of property compulsory when the sale was between two registered parties, the property would be used as part of a taxable activity, and the property was not used as a private residence. This alone can cause confusion for taxpayers as they can view it as not being subject to GST.
Some parties who purchased their property prior to 2011 refer to their property as zero-rated. This would mean that the purchase was subject to GST, but at the rate of zero. That is very different to the standard residential property purchase that is not subject to GST at all.
The policy behind the move to compulsory zero-rating was to stop large GST returns being filed in relation to property, especially when there was a financially stressed vendor who didn’t file or pay the GST but which was readily claimed by the purchaser. Unfortunately, the legislation also created a new level of complexity which was not anticipated or easy to comprehend.
For example, what happens when a property is used for both private purposes and to make taxable supplies? The obvious example is the family home, part of which is used for AirBnB. In this case, if the supplies relating to the AirBnB are over $60,000 per annum, then the AirBnB will be subject to GST. This means that any expenses relating to that taxable activity can be claimed, but when the property is sold, GST will need to be returned for that proportion of the property.
You also have the added confusion of the shared parts of the house. These are the parts that are not used solely for the taxable activity, and not used solely for private purposes. These might include the lounge, entranceway, laundry, etc. These will need to be apportioned using a fair and reasonable method. Let’s take a two story house with one bedroom downstairs with its own bathroom, and living area all attached. The kitchen, garage and laundry are also downstairs, with a large family lounge upstairs, along with three bedrooms and another bathroom which the family uses for private purposes. If the downstairs bedroom is used solely for the AirBnB and never for family friends, then that would be solely part of the taxable activity. Then the kitchen and laundry are used by the family (private) and the AirBnB (taxable activity). This means that the costs relating to the downstairs bedroom are able to be claimed for GST, and the upstairs and garage are all private and cannot be claimed. The kitchen and laundry will need to be apportioned. In this case, it would not just be split half and half, but by working out how much the AirBnB uses it per year (e.g. it’s rented for 100 days of the year) compared to the family (e.g. 365 days per year) and then claiming only the proportion that relates to the taxable activity.
When the house is sold, the same process applies to the sale price. As the house is residential, it could be sold as “inclusive of GST”, meaning the burden is on the vendor to correctly return the right amount of GST. If the house is sold as “plus GST (if any)” this means the purchaser needs to work out how much they are actually paying for the property unless it is zero-rated. The sale will be zero-rated if the purchaser is GST registered and they will use some or all of the property to make taxable supplies, and the property will not form their principal place of residence. If there are different proportions of the house used by the vendor and purchaser for the taxable activity and private uses, then there will be a “wash up” calculation which means additional GST might need to be paid, or a refund obtained by the purchaser in the next GST return filed. This means that zero-rating the transaction is not the end of the story. If the house is simply going to be used as a home by the purchaser, then they are left trying to understand what amount they are expected to pay for the house. This information will need to be provided by the vendor to the purchaser. Often, the vendor does not understand this process, but if they calculate the incorrect total purchase price there is often no recourse after settlement, meaning they will have to pay to IRD any shortfall in GST.
Purchasers do not generally want to put an offer on a property when they do not know exactly how much they are paying, so they are likely to make a GST inclusive offer even if the property is marketed as being “plus GST (if any)”, which puts the onus back on the vendor. This is very common with lifestyle properties that might have traditionally been part of a taxable activity. I strongly caution against registering for GST for lifestyle properties. Anyone can register for GST, however I have often seen IRD review the registration at a later date and cancel the GST registration from the original date, meaning that all the GST has to be repaid to IRD, along with penalties and interest. It is very hard to create a genuine taxable activity from lifestyle properties and IRD is aware of this.
The above are just a few common examples of the GST issues that can arise when buying or selling property. GST is far from straightforward, and caution should be taken by taxpayers and professionals alike. As a tax lawyer and specialist tax advisor, I am happy to work with clients both directly or alongside your trusted accounting professional.
The above is intended for informational purposes only and should not replace specific tax advice. For personalised advice on all tax issues please contact Julia Johnston at Saunders & Co.
Click here to download our Tax Overview drop sheet written by Julia Johnston in March 2019.