Articles by Matthew Gilligan

Now that the dust has settled on what was one of the most anticipated budget announcements in recent memory, now is time to reflect on the impact of the announced and proposed changes on property investors.  In doing so I am going to focus on the specific impact of the tax changes and leave aside for the moment the wider macro effects of the impact of this budget on the economy.  Broadly speaking there are five areas where the tax changes will impact on property investors.  They are as follows:

• The drop in personal marginal tax rates;
• The removal of depreciation claims on buildings;
• Proposed changes to the LAQC regime;
• Raising GST to 15%;
• Extra funding for audit activity at the IRD.

For advice on how the changes impact you contact us.

Depreciation vs Tax Cuts

Let’s take an example of a typical property investor that has taxable income from their job of $75,000 per annum and owns two rental properties that are currently worth circa $700,000 but were bought in 2002 and 2006 for $550,000.  For the 2011/12 income year if depreciation was still able to be claimed on buildings they would have been expecting to make a circa $6,800 depreciation claim which would have a maximum tax benefit of circa $2,200.  At the same time due to the cuts in personal tax rates there is an increase to their after tax income of circa $2,400.  Following this, the investor is $200 better off in the 2011/12 year.  It is also worth nothing that of course depreciation is usually claimed on a diminishing value basis so the amount that would have been claimed on the building moving forward would be reducing over time.  Finally, there is also the fact that in many instances depreciation claims produce a timing benefit only in that it is then recovered on sale.

Following this, we see the removal of depreciation claims as being mitigated by the drop in income tax rates (of course there will be additional private GST costs).

LAQC Regime

The budget announcement also signalled that there will be changes from the 2011/12 year to the LAQC regime.  At the moment the proposals are at issues paper stage only which means they are open for public submission until early July 2010.  The philosophy behind the proposed changes are to align the tax treatment of qualifying companies and loss attributing qualifying companies with limited partnerships.  This means that some of the same aspects that LAQCs have now will be retained in that tax losses will continue to be attributed to shareholders in proportion to their relative shareholding.  However, it also means a number of changes to other aspects of the LAQC regime.  It will mean that taxable profit is attributed to shareholders rather than taxed at company level and there is also a proposal to limit the amount of tax loss that can be claimed to the shareholders’ exposure in the investment. 

If you have an LAQC that may become tax profitable, then contact us for advice.

At this point in time the rules are not finalised but we will be watching this closely and it may well be that many investors who currently have properties in an LAQC will need to consider whether this is the appropriate structure for them moving forward. 

If you have an LAQC with property in it, contact us for advice on restructuring prior to the rules changing.

The fact that depreciation on buildings has been removed, which may lead to a decrease in the tax losses (or perhaps even some properties even becoming profitable), along with the proposed changes to the LAQC regime mean that a review of structures is necessary.  If the changes continue to proceed as proposed affected investors would be best placed to restructure prior to 1 April 2011.

If you are selling property and want to know about the impact of depreciation recovery then contact us.

Likewise if you are buying property and want to know if the LAQC is still the right structure then contact us.

The rise in the GST Rate & Audit Activity

The rise in the GST rate will not have a discernible effect on residential property investors other than expenses that they currently incur that attract GST will increase without the ability for the GST to be reclaimed.  There will be an impact on property traders and commercial property investors however.

If you are a property trader you need advice on transactions occurring around 1 October 2010 when the rate changes.  Please contact us for advice.

It is also worth noting that extra funding is going to be provided to the IRD with one of the focuses being the property industry.  As a result we encourage property investors to make sure that they are involving professionals in the preparation and filing of their tax returns and making sure that they are getting appropriate tax advice in relation to property transactions.

If you are concerned about tax treatment on past transactions or need advice on current ones, then contact us

Overview

Overall we think the budget was a largely positive one for property investors even in respect to the tax changes.  Certainly leading into the budget there was talk of ring fencing of losses, which has not come to fruition and would have had a much more significant impact on the property investment sector.  As it is the removal of depreciation claims on buildings from the 2011/12 year will definitely impact on property investors, but perhaps for property investors any impact of this will be matched by gains to the drop in personal tax rates.

Matthew Gilligan
Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz
or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth.  GRA are accountants who provide expert accountant advice both in NZ and offshore.

Comment(0)   |  

Comments

Post has no comments.

---

Post a Comment

Name (optional)

Website (optional)

Email Address (optional)

Please fill in the text in the image in the box below

Your comment

A recent article by the NBR concerning the wilful trashing of the former family home of bankrupt Merlot Homes director Stuart Herron, which recently sold at mortgagee auction, raises some interesting issues.

To summarise the story, in the four weeks between the auction hammer falling and the moving-in date by the new owners, the house was torn to shreds.

It seems the loss was not only limited to the removal of chattels (shower heads, carpets and stove hob for example), but also malicious and wilful damage including the poisoning of trees and other damage.

Who caused the damage? Who knows, it seems there could be a number of culprits from creditors to the Herron’s themselves – but that’s speculation - despite calls for the Police to get involved.

The new owners are now faced with the expense (both financial and emotional) of fixing the property.

Get Real & ‘Caveat Emptor’

So what does this mean for house-hunters looking for a bargain?

Each week there are pages of mortgagee auctions in the major newspapers and it's naïve to imagine that the former owners are going to walk away ‘quietly’. It’s well-know in the real estate industry and there stories around of how disgruntled debtors have done damage ranging from leaving rubbish to trashing the place.

And as a bargain-hunter looking to buy one of these properties, you too need to get real and be aware that it just might happen to you. It’s a risk that exists which is why you must build in a factor because you know that there’s a potential for this.

Remember, buying a house at mortgagee sale is like buying a car ‘as is – where is’. The normal rules don’t apply. All the usual warranties are taken out of the normal Sale & Purchase contract, so the vendor (the mortgagee) doesn't warrant that the place will have any chattels in it, or even be in a good state or even vacant when you settle.

The reason properties sell at mortgagee sales for typically 30% less than their open market value is that you are NOT buying the chattels and fixtures.

So as the purchaser, you buy knowing all of this in advance and take your chances in fact when you buy a house at mortgagee sale.

In the absence of any contract with the owners and with the Bank documents SPECIFICALLY EXCLUDING CHATTELS AND FIXTURES, any purchaser must be sure of what they are buying.

It is accepted law that chattels are furniture, drapes, dishwasher, microwave and any non hard wired appliances. Fixtures are chattels that have been attached to the property. For example this would include the kitchen the bathroom fittings all light fittings, TV aerials and any hard wired appliances.

At a stretch it could even be argued that doors, handrails and anything in the garden is a fixture. The Vendor clearly states that it is not passing title to any of these items.

The purchaser has contracted to buy the property with none of those items included in the purchase price. This is the legal reality.

Minimising the Risk

Arranging to settle with vacant possession on or as close to the auction day as possible will help to minimise risk as well as factoring the risk potential damage into the price you are prepared to pay.

Comment(0)   |  

Comments

Post has no comments.

---

Post a Comment

Name (optional)

Website (optional)

Email Address (optional)

Please fill in the text in the image in the box below

Your comment

As accountants we are often asked, what can we do to manage our exposure of our affairs to banks, as we increase our business or property borrowing?

There are lots of things you can do to reduce the effectiveness of bank securities and protect yourself from the banks. Ultimately the goal is to stop them taking everything, - just allow a bank to take the investments (and equity in them) that you allot them security over.

Gearing Rules Of Banks

You will need to work within their gearing rules to achieve what is discussed below - so as background generally banks will be happy if you have a 20% deposit on residential property, or 33% deposit for large or commercial investors. Of course you need cashflow to support the credit application, and interest cover of 2.5 to 3 is also required in NZ, rule of thumb. ( Interest cover is rent+ income / interest expense).

Strategies include to beat bank securities (stop them getting everything if you are insolvent):-

1 Use a 'Split loan structure'

Use two banks: Bank 1 lends to the LAQC, secured by the rental, and personal guarantee(PG); the other bank ( bank 2) provides the deposit secured by the family Trust asset. As soon as you can, revalue the rental and refinance with bank 2 to remove bank 1. You end up 100% financed with no Trust guarantee.

2 Put your home in a Trust

Obviously put your home in a Family Trust and complete a gifting programme. Don't give bank 2 a security over the Trust. They will ask, say no. If you do not put your home in a Trust, your personal guarantee exposes the home to bank 2.

3 Use a 'Hawkins Clause'

While you are conducting a gifting programme, if you go bankrupt you will have the ungifted loan called upon to be repaid from the Trust by bank 2. The process is bank 2 calls your PG ( because your company has failed and lost money leaving the bank unsatisfied, etc); the bank demands you pay - you don't and they apply to the court to bankrupt you; the official assignee examines your assets and finds the ungifted loan balance - and will call upon trustees to pay it out in full.

So to defeat a claim against an ungifted loan to your Trust, put a Hawkins clause and debt entrenchment clause in your deed of acknowledgment of debt. The former makes says the OA cannot call the loan, if you are bankrupted ( effectively) and the latter says if the loan is called ( say the clause is struck out at court of appeal, as our clause has high court support in case law), then you leave the remaining loan balance subject to a call notice of 8 years, slowing down the OA for that time.

Watch the video below for an explanation of the Hawkins Clause.

 4 Use the GRA one one one rule, being

* One company ( LAQC ) ( or Trust or whatever you are investing in)

* One bank

* One million dollars worth of debt

By doing this you quarantine all of the banks from each other; if one entity ends up in trouble with a bank, you do not lose all of your property at once - because the banks are ring fenced off from each other in separate companies. This gives you a timing advantage if you end up in a scrape with say bank one, because you can be moving the assets in company 2/3/4 etc and they will have no control over the assets.

It is all about what I call 'getting positional advantage' on a bank. IE Getting to a position where they do not have your entire life stitched up, so they can destroy your family and life savings if something goes wrong.

Strategy 5 No Spouse Guarantee

Don't give a banker your wife's or husbands guarantee. Only one of you should be a director and guarantor. Negotiate HARD to avoid both spouses giving guarantees.

We have more information on property structures and family trusts on this website as well as our family trust blog a www.familytrusts.co.nz.

In summary, you make it really hard for the banks, and they tend to give up. Do nothing and allow them to cross secure everything - you will lose the lot.

Try to ring fence them and manage them with a good broker, - you will be in a much stronger position if you have problems, and you should be able to defend your family home and contents of your Trust.

We have for years told people to do the above, and their brokers, and lawyers have said we are over complicating it, just allow cross securing. Well that is and was crap advice, and many clients are in trouble because they were led into short cuts by their lawyers or brokers.

Split loans take a bit of time to set up, and a bit more energy on your broker's part, - but they are really really effective in a recession. Problem is, in a recession, they are really really hard to put in place ! ( for weaker borrowers.)

Last point: you need a broker to do this - the banks will not want you to do it. Its not illegal, but no bank will help you defeat their interests with split loan structures - they will discourage it and say don't do it. Of course - that is best for them.

I hope this information has been useful.  For a free review of your financial affairs including how to best structure your assets, please request a call now.  We're here to help.

Til next time,

Comment(0)   |  

Comments

Post has no comments.

---

Post a Comment

Name (optional)

Website (optional)

Email Address (optional)

Please fill in the text in the image in the box below

Your comment

As I have said on several occasions, property and stock markets react much faster than local businesses to the bad news.

The property sector and stock market wear the downside of recession very quickly, as does the entire supply chain underneath these sectors of the economy.

But right behind them are the rest of the economy, tightening the belt off tight credit and fear driving reduced consumption.

The whole of 2008 and the first quarter of 2009 has been about falling/bear markets, fear and deleveraging. Deleveraging leads to rapid devaluing of assets, because there are so few buyers relative to sellers. This will continue in my humble opinion for all of 2009 and 2010, though the biggest drop in the markets has occurred and we are approaching the floor in property markets in my view this year / right now.

2011 ( world Cup Rugby Year for NZ ) in my view is the year we will start to see it turn and 2012 will be a growth year. If I am correct in this, then we are ½ way through this nasty patch and there is no hurry to do anything aggressive on the investment front.

Flood of Mortgagee Sales Cued with the Banks

I was told last month that the big 5 trading banks have 2500 properties cued for mortgagee sale, with 12,500 property law act notices cued behind those. ( That’s 15,000 properties on their way to be sold at mortgagee auction.) But the banks are being smart, and not dropping them all on the market at once, - coordinating a release of them on a budget for each bank monthly to protect the market.

If this is true – this is very smart on the banks part and I applaud them for not repeating the mistakes of the 87 and 97 recessions, where the banks drove the market down by flooding the markets with mortgagee sales.

Strangely the biggest villain I hear clients complaining about is BNZ, - their name comes up a lot as a very aggressive banker if you get into trouble. On the positive side, I keep hearing ASB are great to their clients whom are in trouble, - working through their issues constructively.

Banking Horror & Happy Stories

If you have horror stories or happy stories about your bank, I would like to hear them. Email me at mg@gra.co.nz and tell me on a confidential basis.

Opportunity Knocks In Recession

Doom, gloom and continued financial assaults flowing out of America and the World are now so commonplace, they are losing their sting when reported. Relentless media focus has desensitised us, and we now find the extraordinary financial disasters ordinary.

With the shock of it all passing, life seems to be returning to the property markets in New Zealand with March 09’s sales across the county beating any month in 2008. With good reason too – there is significant value to be gained by an informed investor on the hunt and there is a resurgence in finance applications and activity in the market across NZ.

You might have caught the New Zealand Herald’s article on affordability of housing recently, basically showing that for the first time since 2004 in many Auckland suburbs, rent now covers 100% of borrowing costs. ( Looking at average rents over average rental incomes), and if you buy at a discount ( hunt for a good deal), you can find property that pays for interest and all outgoings ( rates, insurance, repairs and maintenance, management, etc) with 100% financing.

This is a function of property values falling, interest rates falling, and rents comparatively holding up. So if you go hunting at present, you can buy a property in Auckland (and around the country), 100% finance it and all cash costs are covered by rents. That means you get the tax refunds on top as a bonus, and the capital gains in the medium term for free!

By the way while I remember, make sure you check out what we're doing in our new Property Procurement Division.  If you like the idea of 'zero cost property ownership, but lack the time to learn and search for the right property youself, then we can help.  There's a lot that can go wrong, and our team has the experience to remove the risk for you.

In my view this winter will be filled with mortgagee sales by banks, bad weather and cold days. Investors tend to get depressed on cold wet days, and not turn up to the auctions. This winter then should reveal some real bargains on those cold wet days in auction houses, and don’t be surprised if you bump into me at a few, - because in this market I am definitely a buyer and I recommend every household start to consider investing against the public mood.

The bargains purchased this year will look very good in 5 years and if you buy right, you will get a huge discount in this environment and positive cashflow all the way through at present.

Happy investing to you.  Go ahead and Request an Interview if you would like a hand getting your taxation and finance arrangements in place with our asset planning team. 

Finally, If you would like to read and comment on more of my articles to designed especially for business owners and investors please visit my blog.

Have a good month!

Comment(0)   |  

Comments

Post has no comments.

---

Post a Comment

Name (optional)

Website (optional)

Email Address (optional)

Please fill in the text in the image in the box below

Your comment