EPSOMTAX.COM
  • HOME
  • ABOUT
    • IN THE NEWS >
      • OWNERSHIP STRUCTURES
      • TURNING SKILLS INTO MONEY AND A BETTER LIFESTYLE
    • PARTNERS
    • SERVICES
    • TESTIMONIALS
    • WHY USE A PROPERTY ACCOUNTANT
  • FAQ
    • AML/CFT
    • ANTI-CORRUPTION
    • AUDIT SHIELD
    • DATA PRIVACY
    • FORMS
    • GETTING STARTED IN INVESTMENT PROPERTY
    • HOW TO CALCULATE RENTAL YIELD
    • INFO FOR NEW INVESTORS
    • INVOICES
    • NEW VS OLD VS LAND&BUILD
    • TAX RETURN FAQ
    • TAX POOLING
  • CONTACT
  • BLOG

WE'RE BLOGGING TODAY

DEPRECIATION CLAWBACK AND YOUR RENTAL PROPERTY

6/17/2013

 
Picture
A client recently contacted us with this query: "I have just heard from a friend that had sold their rental property that they are being asked by the Inland Revenue about Depreciation Recovery and being charged thousands? What is the story with this? I was not aware about if you sold having to pay this back?"

This is a good question and one that deserves more explanation.

How depreciation works
If a building has been depreciated and it is sold in some way, then the depreciation is clawed back, assuming that the building is now worth more than its book value. The sale value of chattels also needs to be calculated and, if they are worth more than their depreciated value, that difference will be clawed back.  If some of the chattels are worth less than their depreciated value, you can deduct that difference.  However, in practice, by the time your rental property is sold, the chattels may well have little or no value in either real or in book terms (unless its something like a swimming pool!)  

NB: (1) If the property goes through a change of use - for example, the landlord moves into the rental property - this is a deemed to be a sale and a clawback of depreciation may be triggered. (2) We are not talking about the situation where the owner moves back into the property temporarily to fix it up then rent it out again, as this does not (generally) change the permanent long-term use of the property and therefore does not (generally) trigger a depreciation clawback.  (3) The 2010 Budget set the annual depreciation rate for buildings to 0% if they have estimated useful lives of 50 years or more. (4) Depreciation cannot be claimed in the year of sale.

How do you tell?
When a property is sold, ideally you should get a proper valuation done (see here for more info).  Work out the difference between their current value and their book value and that will give you the figure that is either clawed back or deducted. (Note that in practice, most people use the closing book value of the chattels, as this usually reflects the real world value of the chattels; note also that in late 2018 the Tax Working Group recommended that the government reintroduce the ability to depreciate buildings).

When do you need to work this all out?
If a property is being sold, things are reckoned on the day of sale.  If you're moving into your rental property, then you use the first day of the next income year (usually 1 April). 

That's not fair!
It might seem that way, especially if you're moving into your rental.  However, keep in mind that for years you have likely been deducting an expense that hasn't involved any cash outlay.  So, it is fair after all.

Is there any way I can get around this?
Well, yes.  IRD allows you to elect not to depreciate property and chattels that would otherwise be depreciable.  This could be particularly useful if you rent out your property for short periods then move back into it, e.g., those who go overseas a lot.  However, if you have already started depreciating your chattels, you can't "un-depreciate them"

Mary Holm's article on the subject is well worth reading.  To find out how to determine what is depreciable and what is not, see this article.  You might also find this post useful, as it outlines the benefits of getting a proper valuation.

Trust vs LTC for Residential Investment Property

6/12/2013

3 Comments

 
Trust vs LTC for residential investment property – which is better?

Well, it depends if the property is negatively or positively geared, i.e., does it make a loss or a profit.  Let's deal with negative gearing first.

Negative gearing
LTCs allow profits and/or losses to flow through to the shareholders; Trusts don't allow losses to flow through to the Beneficiaries (only profits).

Trusts are taxed at a much higher rate than companies (33c/$ for trusts vs 28c/$ for companies), and if there are any losses from your rental investment property, you can’t use them to offset your income.  Why do we say that?  The IRD says: “If a trust suffers a tax loss that loss can not be passed to beneficiaries to offset against their income, except in limited circumstances. Generally, a trust will have a loss for tax purposes if their income is less than the expenses incurred to earn that income.”  (See here for the full text).

However, our recommendation would depend on the circumstances, your financial plan, the gearing of a property and the incomes of each owner (if more than one).* 

Positive gearing
If a property is positively geared the main question is:
  • What tax bracket are the purchasers in?

Here's why:  If you are in or near the top tax bracket (>$70,000 per year), then you will be paying 33c/$ for all income over this amount.  Any extra income received from the rental property will be taxed at this, the highest tax rate.  Therefore, in this scenario, there are three main options:
  1. Setup an LTC to own the rental property, with the majority shareholder being your spouse or partner who is on a lower tax bracket (if applicable).  Ideally they are earning no more than $35-$38k per year (to allow for $10-$13k income per annum from the rental).  Thus the income is taxed at 17.5c/$.**
  2. Setup a Trust to own the rental property.  Again, if there is a spouse/partner on a lower tax bracket as above, then the Trustees can distribute the income to this person, who will then be taxed at personal tax rates.* 
  3. Setup an ordinary company to own the rental property, and pay tax at 28c/$ on the profits.

You can, of course, setup an LTC and have a Trust owning a look through interest, but we can't really see the point of that, apart from asset protection advantages.  That being said, the bank will usually require the universal guarantee of the Trustees, which makes the whole "asset protection" somewhat of a moot point in our opinion.

The only downside of option 3 is this: if you want to draw funds out of the company to drive down the mortgage on your own personal dwelling, then this will be viewed as personal income for you, and you'll have to pay tax on it.  Note that this would, of course, reduce the tax that the company has to pay.
Picture
The Conclusion
Often (but not always) the best structure for owning your rental property is going to be an LTC. The most common structure we see is this: The purchasers of the rental property have their personal homes in a Trust (for asset protection) and have their residential rental property owned by an LTC.  (For a short video on the merits of using an LTC to own your rental property, see here).

It is our view that you need to look at getting the best use out of the legal structures in place, and to consider what their purpose is.  For this reason, we would recommend that before implementing any sort of Trust, you get some good legal advice from a solicitor with experience in residential investment property.  We would also recommend that you do some serious homework on the investment side, ideally consulting with an AFA (we recommend Goodlife Advice). And, obviously, talk to a property accountant.

For further reading, have a look at this link on the IRD website


* See here to find out why an LTC is sometimes better than using a partnership to buy a rental property
** Obviously, if the partner/spouse is earning $48,001 or more per annum, this option would not be recommended, as the income will be taxed at at least 30c/$.  In this scenario, option 3 would be better.


Picture
3 Comments

DON'T PUT ALL YOUR EGGS IN ONE BASKET

6/7/2013

 
Daniel Carney, AFA and Principal of Goodlife Advice on what it will cost you per week to own a rental investment property... and being among the 4% of Kiwis who will have a "nest egg" when retirement comes

Can My LTC Buy Me a Company Car?  Will I Have To Pay FBT?

6/3/2013

 
Picture
Yes.  However, note that Fringe Benefit Tax (FBT) may apply, depending on the situation.

Is the car being supplied to an employee?
FBT applies to an LTC if the car is being supplied to an employee.  

What is an employee then?
An employee is someone employed by the company, with an employment contract - just like any other employee.  However, a "working owner" is not viewed as an employee for FBT purposes (as per the Taxation (Annual Rates, Returns Filing and Remedial Matters) Bill 2011.

So, if I'm a working owner, the LTC can buy me a car and I don't pay FBT?  Woohoo!
Yes, if a look-through owner is not an "employee" there will be no FBT liability.  But! Note that the cost of providing the fringe benefit is viewed as a distribution of profit to that owner, to the extent of the private use element.  The "private" costs will be non-deductible to the other owners.

Um, I'm not getting this.  Can you give me an example?
Sure.  John and Mary each have a 50% shareholding in an LTC, which owns a rental investment property. The LTC buys John a car for $10,000.  John is not an "employee" of the LTC.  The car is available to John 90% of the time for private use.  The LTC then depreciates this capital asset, but makes an adjustment for the 90% private use.  This drastically reduces the amount of depreciation it can claim.  

John's car costs $4,000 a year to run. As 90% of these costs are private, the company can only claim $400 as tax-deductible expenses (10%). The other $3,600 is non-deductible.  

So, let's say the LTC had taxable income of $40,000 and total expenses of $24,000, including the car costs.  However, you now minus the $3,600 non-deductible costs of the car from the total expenses, leaving claimable expenses of $20,400.  Thus, John's share of the net profits will be $19,600 divided by two ($9,800) plus his private use of the vehicle ($3,600), equaling $13,400 taxable income from the LTC for him, and $9,800 taxable income for Mary.

I'm still not sure I understand!
Don't panic.  Feel free to drop us a line or give us a call on 0800 890 132.

For definitions, see  ss HB 1, DC 3B, YA 1 paragraph (db) of the definition of “employee”, paragraph (b)(iib) of the definition of “employer”, definition of “working owner” and definition of “contract of employment”. NZICA Commentary to the Taxation (Annual Rates, Returns Filing, and Remedial Matters) Bill 2011, p 100

What If My Company Is Not An LTC?

See this article: SHOULD I GET THE COMPANY TO BUY ME A CAR?

    Garreth Collard

    Accounting for your rental residential investment property; specialised property tax advice.  Buy me a coffee! 

    View my profile on LinkedIn

    Archives

    January 2023
    August 2022
    July 2022
    June 2022
    May 2022
    February 2022
    December 2021
    November 2021
    October 2021
    June 2021
    May 2021
    April 2021
    October 2020
    September 2020
    June 2020
    April 2020
    March 2020
    September 2019
    February 2019
    December 2018
    September 2018
    June 2018
    April 2018
    January 2018
    December 2017
    November 2017
    October 2017
    August 2017
    July 2017
    June 2017
    May 2017
    March 2017
    January 2017
    December 2016
    November 2016
    October 2016
    September 2016
    August 2016
    July 2016
    June 2016
    April 2016
    March 2016
    January 2016
    December 2015
    November 2015
    October 2015
    July 2015
    June 2015
    March 2015
    February 2015
    December 2014
    November 2014
    October 2014
    September 2014
    August 2014
    July 2014
    June 2014
    May 2014
    April 2014
    March 2014
    February 2014
    January 2014
    December 2013
    November 2013
    September 2013
    August 2013
    July 2013
    June 2013
    May 2013
    April 2013
    March 2013
    February 2013
    January 2013
    December 2012

    Categories

    All
    Accounting
    Airbnb
    Companies
    Compliance
    How To
    Investment Property
    Ltc
    Overseas
    Tax Planning
    Trusts
    Video

    RSS Feed

email  Ph +64 9-973-0706  NZ Toll-free 0800-890-132  Fax +64 28-255-08279
Complaints   Privacy Policy & Disclaimer   Unsubscribe   Refunds   English   español
Information provided on this website is not intended to provide an exhaustive or comprehensive statement of tax law, nor is necessarily accurate and therefore should not be used as a substitute for considered written advice. All information published is subject to our disclaimer, terms and conditions, code of ethics and data privacy policy. All prices quoted are in NZD and exclude GST unless otherwise stated. Please note that fixed price fees do not include the cost of responding to an IRD Audit or Risk Review; please see FAQ for more info.

​© Copyright EpsomTax.com Limited 2013-2017. All rights reserved. EpsomTax.com is a registered trademark of EpsomTax.com Limited. All other registered trademarks or trademarks referred to on this website are the property of their respective owners. Use of this website is governed by the laws of New Zealand.
eWAY Payment Gateway
  • HOME
  • ABOUT
    • IN THE NEWS >
      • OWNERSHIP STRUCTURES
      • TURNING SKILLS INTO MONEY AND A BETTER LIFESTYLE
    • PARTNERS
    • SERVICES
    • TESTIMONIALS
    • WHY USE A PROPERTY ACCOUNTANT
  • FAQ
    • AML/CFT
    • ANTI-CORRUPTION
    • AUDIT SHIELD
    • DATA PRIVACY
    • FORMS
    • GETTING STARTED IN INVESTMENT PROPERTY
    • HOW TO CALCULATE RENTAL YIELD
    • INFO FOR NEW INVESTORS
    • INVOICES
    • NEW VS OLD VS LAND&BUILD
    • TAX RETURN FAQ
    • TAX POOLING
  • CONTACT
  • BLOG