Thursday 29th March 2018
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Investors and speculators will lose their ability to offset losses on residential properties to reduce their tax on other income from April 1 next year, if proposals in an Inland Revenue Department issues paper published today are adopted.
Revenue Minister Stuart Nash issued the paper on 'ring-fencing rental losses', saying "persistent tax losses that many property investors declare on their investments indicate that they rely on capital gains to make a profit".
The IRD paper says there is "therefore an argument that, to the extent deductible expenses in the long term exceed income from rents, those expenses in fact relate to the capital gain, so should not be deductible unless the capital gain is taxed".
Moving to ring-fence losses from property investments would further remove current bias in the tax system that creates advantages to owning residential real estate over other kinds of investments and would follow this week's passage of new law extending the so-called 'bright line test' for whether proceeds from a property sale should be subject to capital gains tax from two to five years.
However, the proposals do mean that accumulated annual losses on rental properties could be used to offset capital gains tax levied in the future and could be used to offset tax on income earned on other rental properties. The prohibition would be on using rental property losses to offset personal and company tax liabilities.
Nash said the proposals did not cut across the separate work of the Tax Working Group, which is due to recommend on tax system recalibrations, including taxation of capital gains on assets other than the family home, next year.
To simplify compliance, IRD proposes that residential investment properties be dealt with on a 'portfolio' basis, meaning a single investor could lump together the losses from a portfolio of properties rather than having to declare a separate tax position against each one.
Rules to prevent interposing a company, trust or other entity between the investor and their properties to circumvent the ring-fencing rules are proposed, but the IRD suggests it would be too complex to try to enforce debt allocation rules on a property-by-property basis across a portfolio - the other main avenue by which taxpayers could reduce their tax liability under the proposed new rules.
Assuming they proceed, the changes are slated to apply from April 1, 2019, although tax officials are seeking submissions on whether they should apply fully from day one or be phased in over two years "to allow affected investors more time to adjust to the new rules, or to rearrange their affairs before the rules apply in full".
The IRD paper proposes that the interest deductibility rules would not apply to the main family home, using the same criteria as the bright line test, and would not apply to farmland, business properties or mixed-used assets that were partly residential and partly used to run a business. People renting out rooms in their main home would not be caught by the proposals.
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