As a couple, should you form an LTC (Look-Through-Company) to own your rental investment property? There are two schools of thought on the subject, basically divided into “Yes, absolutely necessary” and “No, it’s a total waste of time.” What are the merits of the two approaches?
The LTC Approach
If you form an LTC, you have now another legal entity which has annual filing requirements with IRD and with the New Zealand Companies Office. In other words, more compliance costs. However, this legal vehicle does allow you to proportion losses (and income) according to the amount of shareholding that each shareholder has.
For example, John and Mary have an LTC which owns a rental investment property. Mary is not working at the moment (whereas John is), so they have chosen a shareholding percentage of 95/5 for Mary/John. This allows the income to flow disproportionately from the LTC to Mary, who is in a lower tax bracket.
Of course, any tax benefits are incidental. The main reason for planning things this way is that John is flat out at his job, whereas Mary (who works part-time) has a bit more time on her hands. Thus she does almost all of the work involved with the property. And therefore, she is appropriately remunerated for this, hence the 95% shareholding.
The beauty of the LTC is that it has been explicitly set up and clearly and legally allows losses/profits to flow through to the company owners.* The LTC has its own bank account, which expenses/income go through, leaving a nice neat audit trail to follow.
The Partnership Approach
An income tax partnership can be used to own a rental investment property. In this scenario, each natural person is an owner of the property, and the partnership return is used to determine the share of each person in any losses/profits which flow from the investment property.* As no company has been created, compliance is a little less. However, filing with the IRD is still mandatory for each owner of the rental property and for the income tax partnership. Depending on the wording of the partnership agreement (if there is one), the percentage of ownership or the distribution of profits/losses may be changeable .
Where it can get confusing is that expenses are not forced into their own bank account. If the owners are not good at keeping their paperwork, you can end up with a real mess at financial year end, as well as an auditor’s nightmare.
All things being considered, our opinion is that “best practice” would be to form an LTC. It is more flexible, more transparent and more audit-friendly. However, if you already have rental properties in a partnership (or owned by a couple who are married, in a civil union or similar), then an LTC may not be the best option. Please contact us to talk over your options.
For more info on LTCs, see this page at IRD or contact us. If you’re looking for advice on companies vs being a Sole Trader to run your business, see this article.
Accounting for your rental residential investment property; general taxation advice.