NZ Government announces Property Tax changes

The Government has just announced a number of tax changes related to residential property. These changes have the potential to significantly impact residential property investors. The changes include:

• Increase of Bright-line test to 10 years

• Changes to the main home exemption for the bright-line test

• Phasing out / removing interest deductibility on residential property income

To limit the impact of these new rules on the building of new residential properties there are proposed exemptions and modifications of the rules for “new builds”, as discussed below.

The Government has also announced changes aimed at increasing housing supply, including:

• $3.8b Housing Acceleration Fund for housing infrastructure development

• Up to $2b borrowing by Kainga Ora to build state housing (Housing New Zealand)

• Increasing the income and price caps for the Government’s First Home Grants and First Home Loans

Interest Deductibility For Residential Property

The surprise move to change tax deductibility on rental properties has come as a shock to property investors. This will have an impact on you if:

• You own a rental property.

• You own an Airbnb or family holiday house.

• You are about to buy, or you’re planning to buy, a second property.

Currently, owners of residential investment property can deduct interest on loans that relate to residential properties earning taxable income, subject to existing restrictions that can ‘ring-fence’ losses. Interest deductions on residential property acquired on or after 27 March 2021 will be denied from 1 October 2021. Interest on loans for properties acquired before 27 March 2021 can still be claimed as an expense.  The amount claimable will be reduced over the next 4 income years, starting from the 1 October 2021 – 31 March 2023 period with a reduction to 75% deductibility, reducing by 25% each following income year, until it is completely phased out from 1 April 2025.

It is proposed that there will be an exemption for new builds acquired as residential investment property.

New borrowing on or after 27 March 2021

From 1 October 2021 any interest on additional debt incurred on or after 27 March 2021 relating to residential property investment, whether a new loan, or drawing down on existing loans, will not be deductible. Property developers and builders who build properties to sell will still be able to claim their interest expenses. Business borrowings secured against residential properties, but not related to residential property investment, are not intended to be affected by the changes. 

Bright Line Test Proposed Changes

Extension of Bright-Line Test to 10 Years

Under the bright-line test if you sell a residential property within a set period after acquiring it you will be required to pay income tax on any profit made on the sale, unless an exemption applies. The current bright-line period is 5 years.

The Government has announced it intends to extend the bright-line period to 10 years for residential property acquired after 27 March 2021, except newly built houses.  Inherited properties and properties which have been the owner's main home for the entire time they owned it will continue to be exempt from all bright-line tests. It is proposed that a property will be treated as acquired before 27 March if the purchaser made an offer on or before 23 March 2021 that cannot be withdrawn before 27 March 2021.

New Builds – 5 Year Bright Line Test

There will be consultation as to what is considered a “New Build” for the purposes of the rule. The current indication is that properties acquired within a year of receiving their code of compliance under the Building Act will be treated as new builds and still subject to a 5 year bright line test, rather than a 10 year test. 

Main Home Exemption

The current main home exemption from the bright-line test looks at whether the property has been used as the person’s main home for over half of the relevant bright-line period.  If it has, then there is a complete exemption from tax under the bright-line test.  Inland Revenue has been requiring evidence such as utility bills to support actual usage of the property as the owner’s main home during the relevant period.

Under the proposed changes the main home exemption for properties acquired on or after 27 March 2021 will be subject to a “change of use” rule. If a property switches from being the owner’s main home for more than 12 months then a proportion of the sale profits of a property sold during the bright line period will be subject to tax.  The proportion will be based on the ratio of time that the property was and wasn’t used as the main home. Changes of use lasting less than 12 months are ignored and treated as main home days.    If a residential property was acquired on or after 29 March 2018 and before 27 March 2021 the existing main home exemption rules continue to apply.  

Short-stay Accommodation

New legislation will also clarify 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 and cannot be excluded as business premises.

Existing Land Sale Rules

There are other rules in the Income Tax Act that can tax gains on the sale of land in certain circumstances.  These rules will continue to apply.  The bright-line test only applies if none of the other land sale rules apply.  The proposed changes regarding the bright-line test will be introduced in a Supplementary Order Paper to an existing tax bill. As noted above, 27 March 2021 is a key date in terms of the introduction of the new rules, giving them almost immediate effect.  If you have questions regarding how these new rules will impact your situation we recommend you call us for a discussion.

If you fall into any of the above categories, the equations on your properties are now likely to have changed. Get in touch and we can run the numbers for you under the new tax rules. Once you have the right information, you can decide whether to make changes to your investment strategy or the way you use your properties.

Disclaimer:  This material has been provided for informational purposes only and is not intended to be relied upon as advice.  You should seek appropriate advice based on your individual circumstances.  The proposals are subject to consultation and there could be changes prior to introduction into law.