30 September 2021
With only days to go until the denial of interest deductions were to commence on residential property, the government has finally released proposed legislation on how these rules will in fact apply.
Overall, the proposed legislation is not overly surprising and probably more concessionary than some of the submission proposals.
The legislation will be subject to select committee review and potentially public submissions before being enacted, which will ultimately have retrospective impact given the application from 1 October 2021.
Let’s look at some of the key questions many were seeking clarity on.
Are the rules largely the same?
For the most part, the rules proposed in March have largely remained intact.
Essentially, owners of residential properties will be denied an interest deduction from 1 October 2021, unless otherwise exempted.
This means, if you acquired the land on or after 27 March 2021, you won’t be able to claim an interest deduction at all from 1 October 2021.
If you acquired the land before this date, you will still be able to claim interest for a few more years, but your claim will slowly reduce as we have outlined in the table. This includes if you have entered into an agreement to acquire.
Periods of interest deduction phase out
1 Oct 21 – 31 Mar 23
1 Apr 23 – 31 Mar 24
1 Apr 24 – 31 Mar 25
On or after 1 Apr 25
Who will be affected by the new rules?
The rules will apply to all taxpayers who own affected land. However, companies that are not close companies (i.e. companies with five or less natural person/trust shareholders) will not be subject to the denial provided they are not a residential land-rich entity.
Businesses relating to land such as dealers, developers or builders, will also be exempt. Additionally, it is possible for those who are not in business but undertake a development/division to be exempted from the interest denial.
Further, as expected ‘new builds’ will be exempted if criteria is satisfied. And there are also exemptions for social/emergency/transitional/council housing.
What properties would be excluded?
Properties that will be impacted are those that are configured as a residence or abode regardless of whether it is used as such.
This largely mirrors the Brightline definition, in that it is deliberately wide enough to not encourage other use (i.e. it will apply to most short-term rental properties).
Commercial and industrial properties are also excluded from these rules, however, certain properties have been specifically excluded, including:
- A main home (even it partially rented).
- Business Premises (unless used to provide accommodation).
- Commercial accommodation – hotels, motels, hostels, or camping ground.
- Land outside of New Zealand.
- Emergency, transitional, social and council housing.
- Care facilities – hospitals, convalescent /nursing home, retirement villages and rest homes.
- Employee accommodation.
- Student accommodation.
- Māori excepted land.
One thing to note is most short-stay accommodation will be captured by the rules, unless exempted as above.
As noted above, those renting out their main home will be entitled to still claim their interest cost (proportionate to that rental use).
The student accommodation exclusion only applies to hostels and halls operated by educational institutions or where the supplier of the accommodation has an agreement with the educational institution to provide accommodation to its students that satisfies section 5B of the Residential Tenancies Act 1986.
What would constitute a ‘new build’?
A ‘new build’ has been defined as a place configured as a self-contained residence or abode that has had a code of compliance certificate (CCC) issued on or after 27 March 2020 evidencing that the place was added to the land. This also includes appurtenant land if exclusively used for the residents.
It also includes a conversion of commercial property, a hotel or motel that has been configured into self-contained residences or abodes if recorded as being completed on or after 27 March 2020.
This is a key clarification to allow all owners of affected property to be treated as a new build if the property received CCC from 27 March 2020. This wasn’t the case under the initial proposals if the interest was acquired before 27 March 2021.
How long would the ‘new build’ exemption apply for?
A key question with the new build exemption was how long it would apply for. The options were largely between indefinitely, 20 years or ten years. The other consideration was whether subsequent purchasers could inherit/benefit from the new build designation.
The rules propose a fairly simple approach of 20 years from the date CCC is issued, no matter who owns the property. However, this is only for the purposes of interest deductibility, not application of the Brightline rules.
Therefore, if CCC was issued on 28 September 2021, the ability to claim interest on any loan drawn down to acquire the property will be 100% deductible until 28 September 2041. After which it will be 0% deductible.
Will denied interest deductions be available if the sale is taxable?
A key question from the submission information was - if interest deductions have been denied due to this rule, could they be claimed on sale, if the sale of the property was subject to taxation?
It is possible in certain cases for any disallowed interest deduction to be claimed on sale.
For instance, if a sale of property is subject to tax under the Brightline rule, the disallowed interest cost can be offset against the sale. However, the rules are not so clear as to whether it will apply to other taxable land sales.
How will the ‘new-build’ Brightline rule apply?
The legislation introduces the ‘new-build’ five-year test as expected. The rule mirrors the new ten-year test, but with a shorter time period.
The new-build criteria doesn’t require the purchaser to actually undertake the build, it can be acquired, provided CCC has been issued within 12 months of acquisition.
Will roll-over relief from the Brightline rule be offered for certain associated transfers?
One of the concessionary announcements in the consultation information was the potential for relief when property is transferred in certain associated transfers where the economic ownership doesn’t materially change.
For owners in a Look Through Company or a Partner in a Partnership, it will allow a transfer to or from those entities provided the ownership interest is proportionate. There is also clarification that a change from Joint Tenancy to Tenants in Common (and vice versa) does not re-start the Brightline clock.
In addition to this, there is relief proposed for transfers to a Trust if certain requirements are met. This will need to be considered on a case by case basis depending on who the beneficiaries are and their relationship with the transferor. It is expected that many mum and dad trusts could qualify.
An important clarification in this regard is that it doesn’t apply to transfers from a Trust to a beneficiary.