With the government's shock introduction of laws slashing interest deductions on existing rental properties, where can you as an investor put your money? What will get you the best return while still maximizing tax deductions? We present 9 strategies:
SUMMARY OF CHANGES
Changes announced in April 2021 by the government:
HOW DOES THIS AFFECT ME?
At present, when you receive rents, you can offset expenses against that rental income to reduce the taxable profit. A big part of this is interest paid on the rental mortgage/s.
If the expenses are more than the income (a "loss"), the Ring Fencing laws mean the loss can't offset non-rental income, and the loss instead is carried forward to the next year. If you have two or more rentals, the loss from one property can offset the profit from another (depending on how your affairs are structured).
However, under these new laws, the interest deduction will (over 4 years) be reduced, then finally removed. Rental properties will make more profit, and for almost everyone: there will be a lot of tax to pay.
And of course, if you can't claim the expenses on interest, but still have to pay it... where does the money come from? You have to raise the rent.
WHAT SHOULD I DO?
Q: So what can I claim?
A: You can claim all the usual costs e.g. property management, repairs & maintenance, rates, insurance, legal etc. Re interest: It depends on timing. The following chart shows how much you can claim, depending on when you "acquired" the property:
Q: How do I work out the tax impact?
A: The calculator below will help you work out the taxable income. The exact tax depends on many things e.g. owned personally or via a trust or LTC? How much wages you receive etc etc. Note that this calculator assumes you already own/have "acquired" the investment property/ies.
Q: My rental was a new build. Does it still qualify as a new build under these laws?
A: Probably not.
Q: Is short-stay accommodation caught by the new interest deductibility limitations?
A: It would appear that mixed-use-assets (MUAs) - which are holiday homes partly used personally and which are vacant for at least 62 days in a year - are not caught by these new rules, but IRD specify this (at 2.33) "the Government considers it important that where a residential property could be used to provide long-term rental accommodation, the income tax treatment is the same whether the property is used to provide long-term rental accommodation or short-stay accommodation. Any income tax advantage provided for properties used for short-stay accommodation could reduce effective housing supply." In other words, it would seem that yes, it is caught. Just remember that this is all "draft" at this stage, so not actual law.
Q: When did I "acquire" my rental property?
A: For tax purposes, a property is generally acquired on the date a binding sale and purchase agreement is entered into (even if some conditions still need to be met). More info here. Note that for the purposes of the changes outlined here, a property acquired on or after 27 March 2021 will be treated as having been acquired before 27 March 2021, if the purchase was the result of an offer the purchaser made on or before 23 March 2021 that cannot be withdrawn before 27 March 2021.
Q: My property sale will be taxable due to the Bright-Line Test (BLT). Can I claim the interest costs in that scenario?
A: No one knows. IRD say "The Government will consult on the detail of these proposals. Consultation will cover an exemption for new builds acquired as a residential investment property, and whether all people who are taxed on the sale of a property (for example under the bright-line tests) should be able to deduct their interest expense at the time of the sale."
Q: How do the "main home" changes work?
A: Actually, it reminds us a bit of how CGT works in Aussie. There is a great explanation at Stuff together with an example. (Thanks Stuff.co.nz!)
Your lawyer has possibly mis-advised you - although in good faith. Why do we say that? Well, here's a quick checklist before you start panicking:
The gist of it
Previously, the country's lawyers had advised people to gift no more than $54,000 per couple per year so that they wouldn't be accused of excessive gifting when it came time to be assessed for a residential care subsidy. If your assets come under certain figures the Govt. will subsidise your rest-home care. People generally gradually and cautiously gift their house to their trust so that anything they do doesn't stray into excess.
BUT! A recent series of court decisions, upheld all the way to the Court of Appeal, has now said
Gifts of more than $27,000 per year, per application made before the five year gifting period, may be added into the assessment. For couples, gifting is $27,000 in total – not per person.
See this page on the WINZ website for more info
What does this mean for you?
Here's what the Law Society of NZ said:*
The result of the High Court’s decision is that many people who have undertaken a gifting programme to a family trust may now unexpectedly find themselves ineligible for the residential care subsidy. This will come as an unwelcome shock to many. It will also likely cause many members of the profession concern at the prospect of claims from disgruntled clients for previous advice on gifting programmes.
The long and the short of it is that if you have already gifted more than $27,000 per annum to your trust, then this may now viewed by MSD as excessive gifting. (NB: If you have mirror trusts then you may be able to get away with $27,000 per trust per year). If you acted on legal advice, then I suggest you approach your lawyer about making a claim against them. The NZ Law Society makes this comment to lawyers:
Lawyers may wish to consider whether there is a need to notify professional indemnity insurers in respect of the risk of potential claims for previous gifting advice. Some brokers are encouraging practitioners to notify insurers of the risk of potential claims. Practitioners are encouraged to check their particular circumstances with their broker/insurer.
Note that lawyers throughout NZ advised people based on the then-understanding of $54,000 per couple per year, and so acted in good faith. But, at the end of the day, the advice has been misleading, as this recent judgement has shown. It's not pleasant for anyone.
Yes, but didn't the IRD change the law or something? What you might be referring to was the repeal of gift duty. What happened was that the Government passed a law change, meaning that you could gift your entire house to your trust, without incurring gift duty. Previously there was a limit of $54,000 per couple per year. Anything above that had gift duty applied to it. BUT (and here's the key point), the MSD's view of excessive gifting didn't change. If anything, it has tightened up, as explained above.
Residential Care Subsidy (WINZ)
FAMILY TRUST ACCOUNTING - WHAT DO I NEED TO DO?
TRUST LAW CHANGES NEW ZEALAND
What to know more? Call us on 0800 890 132 or email us.
* Note that the quoted blog post from the NZ Law Society is dated Jun 21, 2013, which was before the Appeal Court had made its ruling. This Court ruling confirmed MSD's view, as stated above.
See our three-video series:
SHAM TRUSTS: COULD YOUR FAMILY TRUST BE A SHAM?
COMMON RENTAL OWNERSHIP STRUCTURES
WHICH OWNERSHIP STRUCTURE SHOULD I USE FOR MY RENTAL PROPERTY?
And the following blog articles:FAMILY TRUSTS: BASIC CONCEPTS
FAMILY TRUST ACCOUNTING - WHAT DO I NEED TO DO?
COMMON MISCONCEPTIONS ABOUT FAMILY TRUSTS
Image courtesy of Idea go at FreeDigitalPhotos.net
The Residential Tenancies laws have changed. What effect does the "Healthy Homes Act" have on landlords? The Residential Tenancies Amendment Act takes effect in three main stages:
Phase 1: Law changes from 12 August 2020
I'm freaking out already
Fear not! MBIE have provided this great checklist to work through:
Phase 2: Law changes to take effect from 11 February 2021
Phase 3: Law changes to take effect by 11 August 2021 (but may take effect earlier if the Government agrees)
Is selling your home taxable?, Or in other words, do you have to pay tax when selling your home?
Buying and selling your private or family home typically is not taxable. However some are looking to purchase a family home with the intention of reselling it in time, and a few earn their income this way – buying and selling.
If you have established a pattern of purchasing and then selling your “family home,” this could be considered as property speculation or dealing for tax purposes.
So, how do you know whether you are considered a property speculator, dealer or wheer you are an investor?
How do you know if selling your home will be taxable? Think carefully about the answers to these five questions.
Q. Ok, so I just have to hold onto a property for a really long time and then I’m not considered a dealer?
A. No. The amount of time you hold the property is immaterial. It’s your intention at the time of acquisition.If you bought a property with the intention of reselling it, then any capital gain that you make on the sale taxable.
Q. Right-o. So, is there some sort of level? That is, my first couple of properties are tax-free and then I pay tax after that?
A. Ahhh… no. Again, it’s intention, patterns and associations – not numbers of properties sold.
Q. What period of Brightline Test applies to my house?
A. The bright-line property rule looks at whether the property was acquired:
Q. What about sub-dividing? Is that taxable?
A. That's a big subject. Contact us.
Q. Great. It looks like I might have to pay tax then. How do I figure that out?
A. Contact us.
* For more info see this link at Inland Revenue
What will the new tax rates in NZ mean for you? Now that the election is decided, there will be a new tax rate to deal with in 2021: 39% on personal income exceeding $180,000 per year.
These coming changes emphasize how important it is to have the right business and/or investment structures in place. There will be tax planning opportunities arising out of the difference between the trust tax rate (33%), the company tax rate (28%), the present top personal tax rate (33%) and the new top personal tax rate (39%).
If you would like a review of your tax position and structure, please complete the contact form below or call us on 099730706 line 2
WHAT CAN YOU DO?
1. MORTAGE HOLIDAY: In other news, with the OCR dropping to (and staying at) 0.25%, your bank should be passing on rate cuts for any floating loans, and it is worth looking at existing loans to see if you should break and re-fix or extend the term. Break fees are tax-deductible. Ask the bank or your mortgage advisor to do the calculations for you, or use this tool here. You might also want to look at a mortgage holiday, but just be aware that this will increase the loan,^ but it will buy you some time, so in the big picture, may be worth it. We suggest you only do this if you really need to.
Please see this detailed page with info about mortgage holidays, including links for all the major banks to apply for one. See also our blog post with 4 options for your mortgage to improve cash-flow right now
2. INTEREST RATES: Check with your bank re break fees on your loans, and look at whether the math adds up to break and renegotiate one or some loans at lower interest rates.
3. RENTS: Rent increases are worth considering, as you can now only increase the rent once a year.
4. PAYMENTS: Of course, cash-flow is king, and in this environment, we suggest asking your suppliers if you can start paying in smaller regular installments, rather than bigger sums. This will help reduce the impact of having less cash coming in. EpsomTax.com group offer interest-free time payment plans to all customers as a matter of course; please contact us to arrange this now.
5. INVESTING: This might also be the time to look out for housing bargains - see this article about timing and buying. If you can get a good deal on a cash-flow positive rental, that's going to introduce some $ into your portfolio. Heads-up: Banks are deluged with lending applications, so getting mortgage approval is slow
6. OTHER RESOURCES: Xero.com have provided a page with links to educational content. You don't have to be a Xero user to access all of it. Webinars include managing stress, resilience, business continuity and so on.
What good news is there for the coming weeks and months, in view of the COVID-19 pandemic and its effects on the economy?
Government policy changes include:
* The wage subsidy and leave payments are NOT subject to GST - an Order in Council was passed to treat it as exempt (Section 5(6E)(B)(iii GST Act). The wage subsidy paid to the employer is not taxable; it is excluded income under section CX 47 of the Income Tax Act 2007; it is also therefore not deductible when paid by the employer as part of wages to employees. The payments made to employees are taxable for the employee and subject to PAYE, KiwiSaver deductions, Student loan etc in normal way. The same is true for self-employed persons: it is taxable income. NB: you only need to show a 30% revenue reduction for a single 4-week period to receive the full 12-week lump sum; you should be able to show that you took active steps to mitigate the financial impact of COVID-19, which could include drawing from your cash reserves (as appropriate), activating your business continuity plan, making an insurance claim, proactively engaging with your bank or seeking advice and support from either the Chamber of Commerce, a relevant industry association or the Regional Business Partner programme.
^ How it works is that the principal payments temporarily stop and the interest is added to the mortgage
Are you thinking about buying a rental property but not sure if now is the right time to dive in?
There’s nothing like a worldwide pandemic to give you wobbly legs at the thought of making a big financial investment! It may seem like a precarious time to buy a rental property due to Covid-19 and political uncertainty around landlord requirements. However, there are other drivers which may indicate that it is a good time to enter the property market or expand your portfolio. Let’s take a closer look!
The Housing Market
Despite the economic uncertainty caused by Covid-19, the New Zealand property market is still growing. International migration has decreased, however Kiwis are returning to and staying in Aotearoa in record numbers.
According to the REINZ, in August median house prices across New Zealand increased by 16.4 percent. Furthermore, every region in the country has experienced an annual increase in median house prices. There are still housing supply issues which is hot on the political agenda and demand for rentals are said to be strong.
The amount at which home loan interest rates are set is influenced by the Reserve Bank of New Zealand’s Official Cash Rate. As of September 2020, the Official Cash Rate was held at an all-time low of 0.25 percent. These modest home loan interest rates make it a more affordable time to borrow funds. Consequently, term deposit rates are decidedly slim…
LVR Ratio Restrictions
In addition to low-interest rates, you currently will need to use less of your hard-earned savings to buy an investment property.
Pre-Covid-19, the loan-to-value ratio (LVR), or the size of the deposit that lenders require you to provide in order to buy an investment property, sat at around 30 percent. In response to Covid-19, these LVR restrictions have been removed for one year in an attempt to make it easier for households and businesses to buy property
Legal Requirements for Landlords
Something to keep in mind when thinking about purchasing an investment property is any new and ongoing legal requirements on landlords.
For example, the new healthy homes standards have been introduced for rental properties in New Zealand, to ensure tenants have access to warm, dry and safe homes. These standards set specific and minimum requirements, including heating and insulation for rental properties. This means any property you purchase will either need to be up to specification when you buy it, or investment will need to be made to get it ready for tenants.
In reality, the decision on whether now is the right time to buy is always going to be ‘as long as a piece of string’. There are always going to be risks and potential threats.
However, lower interest rates, the temporary removal of LVR restrictions and ongoing demand in the housing market make it an attractive time to buy a rental property. Ultimately, the decision of buying a rental property needs to be right for your situation. Doing your research and seeking expert advice is going to help you make informed, long-term financial decisions that are right for you.
Engage with us at EpsomTax.com to learn more about how you can minimise tax when investing in a rental property.
What records do you need to keep for your rental* property? Here is a general guide. Note that this list assumes you are using a property manager. All costs are for the 12 months preceding 31 March:
In our view, Home Office expenses can be claimed if you have rental property; however, as it is generally passive income (unless you are managing the properties yourself) we recommend a conservative claim, as follows:
For the rental property:
If you'd like a downloadable copy, please see below.
Why keep good records? The better your records, the more expenses can be legitimately claimed, and the better the tax result is for you.
* For guidelines on Business Expenses (non-rental property) please see this page.
Other FAQs you might have:
USING ACCOUNTANCYONLINE.CO.NZ/MY TAX QUESTIONNAIRE
HOW DO I DOWNLOAD TRANSACTIONS FROM MY BANK'S ONLINE INTERNET BANKING?
WHAT IS XERO.COM?
WHAT'S THE PROCESS FOR MY TAX RETURNS?
The IRD provides a guide here under the heading "Deductions You Can and Can't Claim."
You have a rental property. Can you claim your holiday as an expense? If you spend time travelling as part of your business you can claim business travel as an expense. A good way to prove the business portion of your travel expenses is by keeping a diary of your travels.
In addition to keeping invoices, receipts and tickets you should also keep details of:
So how does the rental pay for my holiday?
Well, the first thing is to remember that there is no such thing as a free lunch - or a free trip - unless you win a competition or have a wealthy benefactor! However, there are such things as a tax-deductible trip, if not 100%, at least in part.
If you'd like to claim your holiday as a tax-deductible expense, then you need to
Then, your LTC/trust/partnership etc can claim tax deductions for some or all of the trip and other necessary expenses: hotels, car, meals, travel etc. Note however that there are some gotchas:
That leather jacket is not tax-deductible
Let's say you are in Queenstown, and you see a nice leather jacket. So, you buy it. The trip is 100% tax-deductible, because it meets all the criteria above. Can you claim the leather jacket? No. The guideline is "what is the nexus between this expense and the business activity?" If there is no clear link or nexus, then the item is not tax-deductible. In this case, what does a leather jacket have to do with your rental property? Nothing. So it is clearly not tax-deductible.
Don't go overboard with your expenses.
Always remember that tax concessions allowed are based on what the hypothetical "reasonable" person would do. A reasonable person would not eat out at the swankiest restaurant every night they were away. They might do that once, but not every night. So, don't get carried away.
Non-business parts of the trip are not deductible
Let's say that you arrive in another part of the country to inspect your rental property, meet with suppliers and possibly purchase another rental. You have a few days' worth of appointments set up, but you have planned to also take a few days to rest up as well. The total trip is 10 days, with 3 days' business pre-planned, and the rest being vacation. Therefore, you cannot claim the entire trip as a business expense. Instead, work out the proportion related to business (30%, in this example), and claim that percentage of the costs.
Can we claim for both of us then and the kids too?
Highly unlikely. Your children are likely not active working partners of your LTC etc, so you would have to make further adjustments to exclude costs related to their stay. What about your spouse or partner? Well, is your significant other a part of the business, e.g. a director of the company? A trustee of the trust (that owns the rental)? Are they actively involved in the taxable activities of the LTC? Is the firm/professional you are meeting at your destination expecting to meet both of you? Then likely yes you can claim.
Questions? Please feel free to contact us. And for clients, before you go away, please please please contact us.
Accounting for your rental residential investment property; specialised property tax advice. Buy me a coffee!