Chapter 1 - Introduction
Background
1.1 The Government has committed to a number of policy measures aimed at making the tax system fairer and improving housing affordability for owner-occupiers by reducing demand from speculators and investors.
1.2 One of these measures is to introduce loss ring-fencing on residential properties held by speculators and investors. This means that speculators and investors will no longer be able to offset tax losses from their residential properties against their other income (for example, salary or wages, or business income), to reduce their income tax liability.
Current settings
1.3 Under current New Zealand tax settings, tax is applied on a person’s net income. We do not generally ring-fence income and losses from particular activities or investments. This means that there is generally no restriction on losses from one source reducing income from other sources – though there are some exceptions to this general treatment.[1]
1.4 Investment housing is currently taxed under the same rules that generally apply to other investments. This means that rents are income, and interest and other expenses (other than capital improvements) are deductible. Capital gains on sale of the property are not taxed unless the property is on revenue account. This could be, for example, because you are in a land-related business (for example, a land dealer or developer), bought the land for resale, or sell the property within the bright-line period of either two or five years (depending on when you first had an interest in the land).[2] Most rental property investors hold their property on capital account and are not subject to tax on the capital gain.
1.5 While rental housing is not formally tax favoured, there is an argument that it may be under-taxed given that tax-free capital gains are often realised when rental properties are sold. The fact that rental property investors often make persistent tax losses indicates that expected capital gains are an important motivation for many investors purchasing rental property. While interest and other expenses are fully deductible, in the absence of a comprehensive capital gains tax, not all of the economic income generated from rental housing is subject to tax. 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.
Aim of the proposed changes
1.6 The introduction of loss ring-fencing rules is aimed at levelling the playing field between property speculators/investors and home buyers. Currently investors (particularly highly-geared investors) have part of the cost of servicing their mortgages subsidised by the reduced tax on their other income sources, helping them to outbid owner-occupiers for properties. Rules that ring-fence residential property losses, so they cannot be used to reduce tax on other income, is intended to help reduce this advantage and perceived unfairness.
1.7 Officials are interested in feedback on the suggested changes outlined in this paper.
How to make a submission
1.8 Officials invite submissions on the suggested changes and points raised in this issues paper. Send your submission to [email protected] with “Ring-fencing rental losses” in the subject line.
1.9 Alternatively, submissions can be sent to:
Ring-fencing rental losses
C/- Deputy Commissioner, Policy and Strategy
Inland Revenue Department
PO Box 2198
Wellington 6140
1.10 The closing date for submissions is 11 May 2018.
1.11 Submissions should include a brief summary of major points and recommendations. They should also indicate whether it would be acceptable for Inland Revenue and Treasury officials to contact those making the submission to discuss the points raised, if required.
1.12 Submissions may be the subject of a request under the Official Information Act 1982, which may result in their release. The withholding of particular submissions, or parts thereof, on the grounds of privacy, or commercial sensitivity, or for any other reason, will be determined in accordance with that Act. Those making a submission who consider that there is any part of it that should properly be withheld under the Act should clearly indicate this.
1 For example, there are loss ring-fencing rules in relation to the bright-line test, which taxes sales of residential land bought and sold within either two or five years (depending on when you first had an interest in the land), and also in relation to the mixed-use asset rules, which may apply to assets that are used both privately and to earn income.
2 The bright-line period is two years if you first acquired an estate or interest in the land on or after 1 October 2015, but is five years if you first acquired an estate or interest in the land on or after the date the Taxation (Annual Rates for 2017–18, Employment and Investment Income, and Remedial Matters) Act 2017 is enacted.