Bright-line Test Announcement

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Government’s announcement last week on proposed changes for residential property has had much publicity and commentary. Our housing epidemic has progressively worsened and the government’s divide and conquer approach has been a direct target to investors, designed to “tilt the balance” towards first home buyers.

In a nutshell, here are the proposed changes announced by the Minister of Finance, Hon Grant Robertson:

  • The rules apply to residential properties acquired on or after 27 March 2021

  • Extending the Brightline test to 10 years, with the main family home excluded

  • Amending the main home exclusion which would require tax to be paid on gains made for periods the property is not used as the owner’s main home

  • Allowing newly built homes to use a 5-year bright-line test (to encourage building supply)

  • Not allowing property owners to claim interest on loans used for residential properties as an expense against their income from those properties. This would start from 1 October 2021 and would be phased in over 4 years for existing properties. There would be an exemption for newly built properties.

A shock announcement was the removal of interest deductibility. Until now, investors have been able to offset the interest they paid on loans against the rental income they received, reducing their tax bills. The government has classified this as a “ending a tax loophole that favours investors”, ultimately insinuating that this was a tax claim that was not available to anyone else.

That’s not true. The law allows interest costs to be deducted from income – from any commercial activity – rental or otherwise. This was not a loophole to be closed. What this announcement has done though, is essentially changing the landscape of investment property by forging it out of sync with almost every other commercial activity.

Interest deductions on residential investment property acquired on or after 27 March 2021 will not be allowed from 1 October 2021and is being phased out over 4 years for existing rental properties.

Will this result in a knee-jerk reaction from the market with potentially second-hand house’s for sale flooding the market? Or will this just move the pendulum for residential property investors to manoeuvre to new builds or even commercial?

Likewise, is the announcement enough of a disincentive to invest in property? After all, the alternatives in the current market, such as return on investment at the bank, is diddly squat!

However, with the increase in the bright-line test from 5 to 10 years and the removal of being able to claim interest deductibility, even Treasury says this is likely to put rents up. The problem with this strategy is in a tight rental market (which is what we are experiencing now with a limited supply of rental properties), whilst the government thinks they are taxing the landlord, it will be passed down the supply chain to the tenant in the form of increased rents.

The tight rental market is why we need to build more homes. New Zealand isn’t short of land, we are short of sections to build on. Investment is needed to get infrastructure like roads to vacant land and subdivisions so more houses can be built. Government says that they will think about the detail of funding more infrastructure in June this year. Even then, it will be just for housing projects the government favours.

They’ve also brought in a rule that says you might be a “speculator” even if you didn’t know it. This relates to the main home and the change of use for greater than 12 months. Now consider this from a pragmatic perspective. Young professional works their way up the career ladder, receives a promotion to an overseas branch. They rent their house out whilst overseas. Under the new rules, the young professional will have to pay a de facto capital gains tax. This is going to have long-term far stretched implications such as whether it is fiscally viable to take that promotion overseas.

There have been several changes for the property investment market of late including the removal of depreciation, ringfencing tax losses, healthy homes standards, etc. But each time the market has been knocked down, it adjusts, gets up, and carries on as before – let’s see if history repeats itself.

For more details on FAQs, we have been asked go to FAQ to Proposed changes in Bright-Line Test and Interest deductibility on Investment.

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