Property Investors Hit Hard by Tax Reforms
The Government has announced huge tax reforms. These tax reforms are attempting to grapple with the housing crisis, and tip the balance of power in the market towards first home buyers and long-term investors.
Prime Minister, Jacinda Ardern, has described these tax reforms as "a package of both urgent and long-term measures that will increase housing supply, relieve pressure on the market and make it easier for first-home buyers". The fund will be a combination of private and Government development of housing, with additional money going to increasing the use of vacant or under-utilised Crown-owned land for housing.
The reforms include doubling the bright-line test on residential property from 5 to 10 years on existing property, implementing a $3.8 billion Housing Acceleration Fund, raising income caps for the Government’s First Home Grants and First Home Loans, and granting loans of $2 billion to Kainga Ora to build more affordable and state housing.
Perhaps most significantly, the Government has also announced that they are removing the interest deductibility for residential investment from 1 October 2021.
The bright-line rules tax the profit made on the disposal of property if it is disposed of within a certain period of time. This is subject to the current main home exemption (but be careful as there are times when the family home is subject to tax). The bright-line test, which acts as a capital gains tax on investment property, means that the profits on the sale of the property could be hit with a tax of up to 39%.
Currently, anyone who disposes of a residential property within five years of acquisition is liable to be taxed on the capital gain, unless it is an exempt property. An exempt property is one that is subject to the main home exemption, is an inherited property, or is subject to a relationship property settlement.
The tax reforms being enacted will extend the bright-line period to 10 years for any existing property acquired on or after 27 March 2021. Property acquired on or after 27 March 2021 will be treated as having been acquired before 27 March 2021, if the purchase was a result of an offer the purchaser made on or before 23 March 2021 that cannot be withdrawn before 27 March 2021.
The bright-line for new builds will remain at five years. There will be consultation around what a 'new build' is, and retrospective legislation is intended to be introduced. A new build is intended to include properties acquired within a year of receiving their code compliance certificate under the Building Act 2004.
The Government also intends to introduce a 'change-of-use' rule for residential properties acquired on or after 27 March 2021, including new builds. This will affect the way tax is calculated if the property was not used as the owner's main home for more than 12 months at a time within the applicable bright-line period.
The legislation will also ensure that residential properties used to provide short-stay accommodation, where the owner does not live in the property, are subject to the bright-line test.
If an investor purchases a brand new property, they will only be taxed on any capital gain if they dispose of it within five years. If they purchase an existing property, they will be taxed on the capital gain if they dispose of it within 10 years.
First Home Buyer Grants Extended
Taking effect from April 1 2021, the income caps for the Government’s First Home Buyer Grant and First Home Loan will move from $85,000 to $95,000 for single buyers and $130,000 to $150,000 for two or more buyers.
First home buyers can access grants of $5,000 for an existing house, or $10,000 for a new build. The property needs to be below a certain price, which is different in every region. The Government is changing the regional property caps for the First Home Loan Grant and allowing people to earn more to be eligible for the grants and to access five percent loans.
The property price caps would also raise to $700,000 in Auckland, $650,000 in Wellington and Queenstown, $600,000 in Nelson, Tauranga, Hamilton, and Napier, $550,000 in Christchurch, and Dunedin, and $500,000 in the rest of New Zealand.
While first home buyers will benefit from the new tax amendments, investors are doubly disadvantaged by the removal of interest deductibility for residential investment from 1 October 2021. Any new investor settling on a property on or after Saturday 27 March 2021, will not be able to write off their interest costs against the tax on their rental income from 1 October 2021. This will apply to all residential property by 2025, although new builds may be excluded.
The rules regarding acquisition that were applied to bright-line will also apply to interest deductibility. Therefore, property acquired on or after 27 March 2021 will be treated as having been acquired before 27 March 2021, if the purchase was a result of an offer the purchaser made on or before 23 March 2021 that cannot be withdrawn before 27 March 2021.
If money is borrowed on or after 27 March 2021 to maintain or improve a property acquired before 27 March 2021, it will be treated the same as a loan for a property acquired on or after 27 March 2021. Interest on it will not be able to be claimed as an expense from 1 October 2021.
For properties owned prior to 27 March 2020, the removal of interest deductibility will be phased in as follows:
- 1 April 2021 - 30 September 2021 -100% deductible
- 1 October 2021 - 31 March 2023 - 75% deductible
- 1 April 2023 - 31 March 2024 - 50% deductible
- 1 April 2024 - 31 March 2025 - 25% deductible
- 1 April 2025 onwards - 0% deductible
The Government says that this is aiming to level the playing field for first home buyers competing with investors to buy property. Finance Minister Grant Robertson has said that the house price increases in recent months are harmful to affordability and presents a risk to economic stability. The tax amendments aim to encourage investment into new builds and increase the supply of property. Robertson says that this is why the Government is keeping the bright-line at the current five years for investment properties.
The tax is paid at the relevant marginal income tax rate, which with the recent tax bracket imposed, could potentially be up to 39 percent on some or all of the profit.
It seems that the blanket rule for deductibility of interest for companies will be amended by this legislation if the interest relates to lending on residential property.
Revenue Minister David Parker said the Government was considering ending interest-only loans and the Reserve Bank was looking at bringing in debt-to-income caps for mortgage lending.
We are waiting to see draft legislation to determine exactly how wide reaching these rules will be. However, there is no doubt that those investing in property will be facing significant tax implications as a result of the above changes.
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.