To Gift or Not to Gift

Many of you will be aware that the Government have changed the rules on gift duty, repealing gift duty legislation from 1 October 2011.  The effect of this is that IRD will no longer have an interest in gifts made after this date, as the transference of wealth will no longer be subject to gift duty from this point.

The question then raises itself, should people who have a Family Trust whom have been conducting a gifting programme make a lump sum gift to their Family Trust after this date?  The answer to this question is not as obvious as it may seem.  From an asset protection perspective clearly one would like to make a lump sum gift to their Family Trust for creditor protection in the future.  If a person has gifted all of their assets to a Trust, this means that they no longer have assets and in theory makes it much harder for creditors to get the assets from their Family Trust.  Previous restrictions on gifting having been wiped away from a gift duty perspective would make it seem obvious that lump sum gifts to a Trust would be the logical path to take from 1 October 2011.

Significant Issue to Consider before Gifting

One significant issue to consider is your eligibility in the future for the residential care subsidy.  The Ministry of Social Development (MSD) administer the asset and income testing rules.  In particular, it is the MSD that determine how discretion in relation to adding back past gifting into the asset test is applied.  Current policy of the MSD is that all gifts within 5 years of applying for the subsidy are added back, with the exception of an allowance on $6,000 per annum.  In other words, if you gift all of your assets to a trust and then 1 year later require rest home the gifting will be added back and included in your asset base.  The MSD can also reverse gifts outside the 5 year period, but at this point current policy is to only add back any gift in any year exceeding the sum of $27,000.

For example let us look at an individual who had an outstanding loan balance from their Family Trust of $500,000 and on 1 October 2011 declared a gift to their Trustees for the $500,000 as a one off gift.  While IRD would have no interest in such gift and it would not be taxable under gift duty legislation thereafter abolished, the MSD perhaps 40 years later (or whenever it was that the person making the gift made application for the residential care subsidy on the basis that they had no wealth at that time because all of their assets were contained in Trust) would look back and say that on 1 October 2011, the applicant had made a gift in excess of $27,000 and add back $473,000 to the applicant's personal asset base.  In other words while the $27,000 gifting threshold is no longer relevant to IRD, it is still highly relevant in relation to your ability to claim aged care subsidy relief in the future.  In this case the $473,000 deemed available to pay rest home fees.  On the other hand the $473,000 would not be available for aged care fees had the person continued to gift at a rate $27,000 per annum.  In this instance, each year there would be no gift over $27,000 so no excess to add back. 

On the face of it, you may think it is therefore best to continue to gift at a rate of $27,000 per annum.  In some cases we would agree with this conclusion.  However, it will not be appropriate in all cases.  If the assets base is big enough that no amount of annual gifts at $27,000 per annum will see you fall below the asset threshold, then there is little point persisting with gifting at $27,000 per annum.  Second, if you are more concerned about creditor protection and having assets outside of your estate (i.e. so they are not subject to a challenge to the will) then you will want to do a one off gift.  Third, if it is going to be many years before eligibility for residential care is an issue, we consider it unlikely that the rules will be the same in, say, 30 years.  Following this, it may be an ultimately fruitless exercise to gift at $27,000 for 30 years only to arrive at the end and be subject to a different set of rules.

Solvency At Time Of Gift Important To Document

The other issue that needs addressing particularly if you are making a one off gift to the Trust is solvency.  In short there are provisions under the Insolvency Act (sections 194, 195, 204 and 205) which broadly speaking allow the Official Assignee to set aside certain transactions made by a bankrupt before he or she was adjudicated bankrupt.  Largely these provisions apply if gifting occurred within 5 years of bankruptcy at a time the donor was insolvent.  Furthermore, there are provisions in sections 344 to 350 of the Property Law Act that allow transactions that prejudice creditors to be clawed back.  As a result you need to be very careful when documenting large gifts to Trusts if you want to mitigate the possibility of such gifts being clawed back under either of these statutes in the future.

We consider that best practice is to ensure that your solvency is evidenced at the time that any gift is completed.  This means that a solvency statement or certificate should be executed at the time of the gift referring to the fact that the donor is able to meet debts as they fall due.  In some cases this should be a certificate signed off by an independent qualified party such as an accountant.  In some cases it might be a simpler declaration by the donor.

At GRA we will be reviewing the circumstances of all clients that we complete one off gifts for and making sure that there is evidence of solvency maintained for the file.

Summary

You should not rush into making a one off gift of assets into a trust post 1 October just because you can.  In some cases there will be grounds for completing your gifting programmes as you would have done under gift duty legislation at $27,000 per annum per year, per spouse, to maintain the option of qualifying for the residential care subsidy under current MSD rules.  On the other hand you need to weigh this against creditor protection and estate planning issues. 

To see me talk more about this in detail watch "The Beat Goes On."

If you would like to discuss this matter with the writer, please contact  Matthew Gilligan at Gilligan Rowe & Associates LP, mg@gra.co.nz, +649 522-7955.

Matthew Gilligan
Director

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.  Also what about joining us on Facebook.

New Tax Rules Proposed for Holiday Homes

The IRD has recently released an issues paper in relation to the tax treatment of mixed-use assets.  Whilst the issues paper will apply to a range of assets including yachts, launches, aircraft for example, its application to holiday homes is likely most relevant to readers and clearly the main intended target of these proposed changes.

Current Rules

Currently one is entitled to a tax deduction for expenses incurred in deriving taxable income.  In the case of a holiday home where there are periods during which the property is rented the law is very clear in that the income is taxable and the expenses incurred during that period deductible.  When the holiday home is used privately the law is equally clear in that no expenses are deductible during that period.  In between the holiday home may well be available for rent and the current IRD position in relation to expenditure during this period is that a deduction may be available if genuine attempts are made to rent the property. 

Proposed Changes

The IRD want to change the rules in relation deductibility of expenditure during periods in which a holiday home is available for rent but not actually rented.  The proposed rules will apply to holiday homes that are unused for at least two months of the year and owned by individuals, trusts, companies that are close companies, qualifying companies, look through companies and where the holiday home is used both privately and for income earning purposes.

If these criteria are satisfied the IRD are then proposing one of two methodologies for determining whether expenditure will be deductible.

First option is something of an all or nothing option in that either all expenditure during the downtime will be deductible or none of it will.  In order for all of the expenditure to be deductible the holiday home would have to have been used for income earning purposes for 62 or more days during the income year and the actual personal use be less than 15% of the income earning use.  For example, if a holiday home were rented for 80 days during the year then provided the private use were no more than 11 days all expenditure during the remaining days of the year would be deductible provided there was genuine efforts to earn income during that period. 

The second option includes a more complicated formula that allows for a partial deduction of expenditure during the downtime periods based on the proportion that the income earning use of the property bears to the private use.  Under this test in order to get a deduction for all of the expenditure, once again the asset will have to be used for 62 days or more in a year, but the threshold of private use to income earning use drops to 10%. 

GRA Comment

The first point to note that these rules are at proposal stage only.  Public submissions on the rules can be made to the Inland Revenue before 30 September 2011.  A link to the issues paper can be found by clicking HERE.

Whilst the rationale for this overhaul of the rules is relatively sound in that the desired outcome is to tighten deductibility of expenditure in relation to assets that ultimately are more about private than investment use, the proposed thresholds will likely have a significant consequence for owners of property that are genuine investments but used privately from time to time.  A typical holiday home investment may well produce more rent on an annual basis if rented periodically to short-term stay occupants rather than on a long term lease.  In such a case there may not be a large number of days where the property is occupied meaning that the private use threshold whether it be set at 10% or 15% is relatively low.  It seems unfair to us to then disallow deductibility of all expenditure during downtimes on the basis that it is essentially of a private nature when the asset arguably has a predominant business use. 

It was also interesting to note that the IRD issues paper referred to the fact that there are 15,000 holiday homes available for rent in New Zealand based on a survey of eight leading New Zealand websites.  One would not be surprised if you had a property advertised on such a site that you attract the attention of the taxman in the future. 

As always if you have a holiday home and are concerned about the application of the current rules to you please contact us.  Once again these rule changes are proposed only and if you feel strongly about them we encourage you to make a submission or provide GRA feedback and we can accumulate your feedback and submit on your behalf. Please send feedback to info@gra.co.nz

Matthew Gilligan
Director

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.  Also what about joining us on Facebook.

GST Issues for People Buying and Selling Property/Property Traders

Whilst it has almost been six months since the new zero rating provisions for land transactions came into force, at GRA we are still seeing quirks and issues emerge as practitioners and property traders / investors come to grips with the new rules.  In today’s article I want to examine two scenarios that those of you who are property trading should be wary of.

Scenario One

In scenario one a property trader has identified a potential trade property that is on the market for $200,000 including GST (if any).  The trader thinks that they could spend $20,000 making renovations and then sell it for $260,000.  The trader understands that they will need to return GST on the $260,000 but anticipates making GST claims on the $200,000 purchase price and the $20,000 renovation costs leaving a margin of circa $35,000 after GST and before income tax. 

Following this the trader submits an offer for $200,000 including GST.  The offer is accepted and our trader starts to look forward to renovating and making the $35,000. 

However, prior to settlement the trader seeks advice in relation to the GST treatment of the purchase and discovers that the vendor is a GST registered trader themselves.  This means the transaction of selling the land from the GST registered vendor to our GST registered trader is a zero rated transaction for GST purposes.  The $200,000 purchase price "inclusive of GST (if any)" now includes GST applying at a rate of 0%.  As a result our trader who anticipated having a GST refund of $26,000 in relation to the purchase of the property now has no GST refund.  Suddenly the $35,000 pre-tax profit is eroded because GST still has to be accounted for on the sale (note that we are assuming that the sale here does not occur to yet another GST registered party but it is a retail sale to an owner occupier / residential investor).

Possible Solutions

The moral of the story here is know your vendor.  If the vendor is GST registered and selling the property as part of their taxable activity and you are similarly GST registered and buying it for a taxable activity the GST component is zero.  In such a scenario you need to offer what you perceive as the GST exclusive value of the property to you - which in this case is $174,000 (being the $200,000 less the anticipated $26,000 refund that you are now not getting).  You can also consider including a clause in a contract making them warrant that not only are they not registered now but they will not be at the time of settlement and should they breach that warranty then the purchase price is reduced to reflect the fact that you will not get your GST input claim.

Scenario Two

In scenario two we are looking at a property trader whom is selling a property bought for trading purposes.  Our property trader is approached by a prospective purchaser who explains that they are GST registered and looking to buy the property in order to apply it towards a taxable activity (for example use as a commercial premises).  The purchaser therefore explains that they are willing to offer $400,000 inclusive of GST.  Our property trading vendor wants to clear $400,000 excluding GST and therefore had anticipated selling it to a retail investor for circa $460,000 so that after they had paid their $60,000 GST they still had $400,000.  This GST registered purchaser convinces our vendor that because its going to be a zero rated transaction they can sell it for $400,000 "including GST" because the GST component will be zero and our vendor will clear $400,000.  The vendor accepts the purchaser’s overtures and enters into the sale and purchase agreement.

Subsequently the purchaser changes their mind in terms of the use of the property they advise the vendor that they are now nominating a non-GST registered entity that will be buying the property for non-GST purposes (i.e. residential rental or to occupy as a residence).  This is disastrous for the vendor because now the $400,000 which was anticipated to include zero GST in fact includes GST at a standard rate meaning that our vendor has to account to the IRD for $52,000 in GST out of the $400,000 sale price.

Possible Solutions

If you are a vendor you could make the price “plus GST” instead of “inclusive of GST”.  If the contract is plus GST then a purchaser will have to pay GST at the standard rate if they change their mind (having initially said they will be GST registered).  Another strategy is to include a clause in the sale and purchase agreement whereby the purchaser warrants that they will remain GST registered at settlement and the transaction will be a zero rated transaction, and if they breach that warranty then the sale price is increased by 15% to compensate you as vendor for the fact that you will now need to account for GST.

Both of these scenarios illustrate the importance of understanding the circumstances of the other party in land transactions.  They also show that if circumstances change you can be placed at a disadvantage. 

As always we recommend you seek advice on your particular transaction.  Every transaction is different and you need to be vigilant in checking the terms of your sale and purchase agreement.  The above is comment of a generic nature only and should not be mistaken for specific advice in relation to any transactions you are involved in.  Contact us at GRA for advice on 09 522 7955.

If you are worried about any of these issues I have mentioned email or come and see me.

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.

RECENT GST CHANGES

In our last newsletter I talked about the new zero rating rules that apply to land transactions between two GST registered parties.  In this edition I’m going to look at the new apportionment rules that were brought in at the same time and apply from 1 April 2011 with certain exceptions.  First a bit of background.

"Old" Rules

Historically the GST rules that apply to claiming GST on purchase have applied on a principal use test.  If the principal purpose in acquiring the asset was to apply it towards a taxable activity then a GST claim on the full purchase price was permitted.  For example if a car was being acquired with the intention of it being used 51% of the time for business purposes then full GST could be claimed.  The sting in the tail of the old regime then came in as the car was applied towards non business purposes as there were then relatively complicated adjustment rules that required GST output adjustments (i.e. payments to be made) each GST return period. 

The same rules applied in respect of property, whereby if a property was bought with the principal purpose of trading a full GST claim was available.  If the property was then rented residentially (which is an exempt use for GST purposes) adjustments were made each GST return period based on the rules set out in a judgment known as the Lundy case.

New Apportionment Approach

The new approach applying from 1 April 2011 allows for proportionate claims of GST.  Intuitively this does seem sensible.  If a car, for example, is going to be used 75% for business purposes and 25% for private purposes it makes sense that 75% of the GST be claimed at the outset rather than applying the old principal use test.  Where the complication in the new rules comes into play is that you then need to monitor the use of the car over time and if it transpires that it is only used 50% for business purposes then an adjustment will need to be made to repay some of the GST claimed so that the net amount claim equates to 50% of the GST paid originally so that it reconciles to the 50% business use.

Bob & His Car

To illustrate by way of example let's take Bob whom is a plumber and buys a vehicle that he expects will be 75% used for business purposes.  He pays $23,000 including GST.  The GST component of this is $3,000.  Initially Bob claims a refund of $2,250 being 75% of the GST paid reflecting the intended 75% business use.  The car was bought in June 2011. 

Bob now needs to monitor the actual use of the car over time and potentially make an adjustment in what is known as his first adjustment period.  The first adjustment period is either the end of the financial year in which the car is acquired or at the end of the next financial year.  For example Bob could choose his first adjustment period to either the period that ends 31 March 2012 or 31 March 2013.  Whatever adjustment period he chooses, as at that date he will need to calculate the actual business use for the adjustment period and compare it to the intended use.  If the actual business use at the end of the first adjustment period turned out to be 50% rather than 75% then Bob would have $750 GST to pay which then effectively means his net GST claimed is $1,500 (being the $2,250 originally claimed less the $750 adjustment paid back) which in turn equates to 50% of the original GST paid.

Application to Land

Many readers will be interested to know how these rules apply to property bought for dealing and development purposes where 100% of the GST has been claimed initially but the property is then rented residentially because an appropriate buyer cannot be found.  The first point to note is that these new rules only apply to property acquired on or after 1 April 2011.  If you own property at present in a GST registered trading entity and you are renting that residentially you make adjustments according to the old rules if acquired pre 1 April 2011.  In other words, if you have historically been making GST adjustments according to the formula set out in the Lundy case then you continue to do so. 

If you have acquired the property on or after 1 April 2011 and after claiming GST have not been successful in finding a buyer then you apply these new rules.  The starting point to apply the new rules is to determine what your first adjustment period is going to be.  Assuming a 31 March balance date this will either be the period that ends 31 March 2012 or 31 March 2013.  In short, if you have acquired a trading property on or after 1 April 2011 and end up renting it residentially you do not make periodic adjustments each GST return but rather will assess the actual use of the property as at 31 March 2012 or 31 March 2013.  If at that time the property has not sold you will look back and determine during the period of ownership how long it was rented for and how long it was applied towards the intended activity of property dealing (in other words how long was it on the market for).  Without going into detail if the property has been rented and not marketed for sale then its business use in terms of a percentage will be very low which will mean at the first adjustment period a potentially significant amount of GST will need to be repaid. 

To illustrate by way of example let us say that a property is bought in June 2011 for $460,000 with a $60,000 GST claim being made in the period covering the purchase.  The client decides that their first adjustment period will be period that ends 31 March 2012.  At that point the property has been owned for nine months.  Outside of the first two months of ownership where the property was renovated and then marketed for sale the property has been rented.  Without going into the detail of the calculation applying the formula shows that the property has only been 20% applied towards the taxable activity and 80% applied towards the exempt activity of residential rental.  The result of this is that there will be GST to pay of $48,000 for the adjustment period (being 80% of the GST claimed).

For those who are familiar with the far smaller but regular adjustments that are made in applying the Lundy calculation, you will immediately recognise that the adjustments under the new rules are going to be far more significant if a property is rented residentially for a significant period of time.

Conclusion

In summary, new apportionment rules mean that GST is not always claimed in full when an asset is acquired.  Rather you will need to ascertain what the business use percentage is and then claim that relevant percentage.  You will then need to monitor the actual use of the asset over time and decide on what period of time you are going to choose to be your first adjustment period.  At the end of the first adjustment period you will compare the actual use to the intended use and there may be GST to pay (or to claim) as a result.  In relation to property this GST adjustment could be very significant if the property is rented residentially.  Those with property acquired prior to 1 April 2011 can ignore these rules and continue to apply the existing rule.

As always please contact the team at GRA with any queries in relation to the above on 09 522 7955 or click here.

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.

Sunday Rant....

Labour intend to ring fence property losses to future property income. This will send thousands of investors broke fast. Take investors tax refunds away, property values crash. This is well documented overseas. Sweden property values dropped 35% when they ring fenced losses and the following govt reversed the policy, with values immediately there after recovering.

 Accountants would get a mountain of pre change planning work and we would have years of work to do.  While lots of New Zealanders will go broke with ring fenced losses and inolvency revenue will grow to. I'm not going to sit by and have to charge my clients for work that is going to make them go broke.  Labour are you thinking this through?
 

I would not want to be a banker though with losses ring fenced...will make an already difficult environment treacherous and property investors would want to be selling sooner than later.

This really is playing with fire by labour with little short term upside, given the global backdrop of deleveraging, and capital growth prospects in NZ with higher interest rates on their way, - next year or sooner, and potential for major problems globally as Asia and Aussie come off the boil and Europe and the USA choke on their indebtedness. This must put pressure on interbank lending rates within 2 years, especially if we see sovereign default in the PIIGS or USA.

The massive bureaucracy they built and squandered our money on, the buy back of kiwi rail,  now CGT, to name but a few blunders. 
  

Back on Tax

If you want instant cash flow targeted on property - it's simple. Introduce stamp duty like the rest of the world. Instant 3- 5% tax on the turnover in the property sector dampening speculation and raising major govt revenue, without the complexity of CGT.

If you are worried about any of these issues I have mentioned email or come and see me.

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.

Capital Gains Tax

Once again the topic of capital gains tax (CGT) has reared its ugly head.  Speculation is that Labour will unveil a property investment targeted capital gains tax when it announces its tax policy in the next two weeks.  The Greens have thrown their not so considerable economic muscle behind the proposed tax.  In light of this, let’s examine some of the arguments that proponents of CGT put forth:

• Capital gains should be taxed because there should be no difference in outcome between a taxpayer whom generates a gain of $50,000 through the sale of a capital asset and one whom earns $50,000 through salary.  In other words, taxing capital gains is fair and would create a more “pure” tax system with less incentive to direct investment into assets where there will be no tax to pay on gains.  This argument falters, however, when it seems inevitable that if there is a capital gains tax it will exclude one’s private residence and furthermore it seems as though Labour have their gun sights fairly and squarely set on property investors as opposed to share investors, for example.  There are also suggestions that there will be a threshold so that smaller capital gains are exempt.  Where is the fairness and purity in the tax system if the tax does not apply across all investment classes and furthermore there are exemptions within property?

• Capital gains tax will generate revenue to allow for tax cuts, possibly a tax free threshold.  The difficulty here is that a proposed capital gains tax may not generate the revenue expected and certainly not in the short term.  Again there is suggestion that property acquired prior to the introduction of the tax will not be subject to tax.  Furthermore, a capital gains tax may create a “lock in” effect whereby investors defer selling assets in order to avoid triggering the gain. 

• Capital gains tax will make property more affordable particularly for first home buyers.  It seems a bit defeatist to me to seek to solve the housing affordability problem by depressing house prices rather than raising real incomes.

• A capital gains tax will rebalance investment and redirect investment away from property and into more productive forms of investment.  In response to this may be tax is not the answer?  With finance companies failing and questionable practices from some in the financial advisor industry in the past, it is perhaps little wonder that property is such a popular form of investment.  Obviously there have been recent changes in relation to the regulation of financial markets, and it will be interesting to see what impact this has on investment biases of Kiwis moving forward. 

Some other points of concern in relation to the introduction of a capital gains tax include the fact that it is inevitably complex.  Once you move to exempt private homes or other classes of assets (for example, farms?) you exponentially increase the complexity of the proposed law.  You create incentives for people to structure their affairs to work around the capital gains tax.  There is also the issue of an immediate impact on property values.  This point often raised how desirable would it be for property values to take a material hit when off the back of a global recession many property owners are already heavily geared and would end up with negative equity.  What would be the knock on effects for lenders?

In the end, I can’t see how a capital gains tax will produce the outcomes that its proponents seek.  However, one outcome which I do see as a certainty is defeat for Labour at the ballot box if they proceed. 

If you require help with your property portfolio or tax return please get in contact with us at GRA we are here to help, CLICK HERE and fill in the form and we will be in touch otherwise call 09 5227955.

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.

New GST Regime

On 1 April 2011 new GST rules came into force.  Perhaps the change of most significance to many of our clients are the new rules around zero rating of land transactions.  These rules were brought in to address concerns the Government had about GST leakage where land was being sold from one GST registered party to another, with the GST registered purchaser making a GST claim that was funded by the IRD, only for the GST registered vendor to turn out to be insolvent meaning the IRD were not able to collect the GST from them.

As a result new rules now apply to transactions involving the supply of land between GST registered parties.  Put simply, any supply which involves land is zero rated for GST purposes which means that GST applies at a rate of 0%.  A registered purchaser does not pay nor claim GST and the registered vendor does not return it.  This prevents the IRD from ending up in a situation where they are out of pocket.

If you are a vendor or purchaser of land you need to be very careful.  Consider the following situation from a purchaser's perspective:

• You are buying a property for trading purposes.  You are an experienced trader and have a GST registered Trading Trust through which you conduct your trading activity.  You generally buy properties for around circa $230,000 and are accustomed to claiming GST in respect of these purchases which then means the net cost to you after your GST claim of $30,000 is $200,000.

• You find a new property that fits your criteria and eventually negotiate a price of $230,000 inclusive of GST anticipating a refund of $30,000.  However, it transpires that the vendor is GST registered and themselves selling the property as part of their trading activity.  Under the new rules you are not able to claim $30,000 GST as the transaction is zero rated, meaning that the applicable GST rate is 0%.  As the purchase price was $230,000 including GST and the GST is nil, the net cost to you is $230,000 and you will still have to account for GST on sale – unless you sell to another GST registered party buying the property for taxable purposes.

There is an addendum that has been added to the standard sale and purchase agreement but we are aware of instances where vendors are not filling this out or it is being filled out when it isn’t required to be. 

The result of all of this is that you should act with the upmost caution if you are a GST registered purchaser or vendor of land.  Please contact us at GRA for specific advice on your transactions as required.  Make sure you do this before contracts go unconditional so that you have certainty around the GST treatment before you are committed.

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.

• Draft legislation is before Parliament to repeal gift duty from 1 October 2011.  Once this rule is finalised we will spend more time advising you as to what the appropriate course of action is.  At this point it would seem highly likely that this will be enacted as is so one can expect gift duty to be no more from 1 October 2011.

• A number of significant changes are programmed to take effect in relation to GST from 1 April 2011.  Some of the key ones are:

• Land transactions entered into after 1 April 2011 are zero rated for GST purposes if the transaction is between two GST registered parties.  In the past the vendor would collect GST from the purchaser and remit that to the IRD and in turn the purchaser would claim the GST back.  From 1 April 2011 such transactions will be subject to a GST rate of 0% meaning no GST is charged and collected and no GST is claimed by the purchaser.  This is a rule change designed to prevent so-called "phoenix" arrangements whereby land was sold out of one GST registered entity to another, at which time the purchaser made a GST claim and the IRD were left out of pocket because the vendor entity was insolvent and could not pay the GST back.

• New apportionment rules replace the current adjustment rules.  Under current GST rules you claim GST on 100% of the purchase price of an asset if the principal purpose in acquiring the asset is to apply it towards a taxable activity.  You then make adjustments if the asset is subsequently applied towards exempt purposes.  The apportionment rules replace this approach by requiring you to determine up front what portion of the assets use is intended to be for taxable purposes and then claiming GST on that basis.  For example, say 75% of the use of an asset is expected to be in relation to the taxable activity, you will claim 75% of the GST.  You then make adjustments over time if the actual use of the asset differs from the original estimate.

• In relation to land transactions many of you may already be making GST adjustments as a result of a property being bought for dealing or development purposes being rented.  Despite the enactment of these new rules on 1 April 2011 you will still continue to apply your existing rules for land acquired prior to this date.

• The position in relation to nominee transactions has been clarified.  There has historically been debate around whether nomination arrangements triggered a second supply for GST purposes.  The new provisions by and large confirm that there is a single supply from the vendor to the nominee and provided all other criteria met, the nominee is entitled to make the GST claim.

• The definition of commercial property has been broadened to explicitly include home stays, farm stays, bed and breakfast accommodation and certain serviced apartments.  Broadly speaking there is almost a presumption that property is commercial unless you fit within the definition of dwelling, which is essentially a dwelling used by its occupants as their principal place of residence.

• In relation to Family Assistance the definition of income in order to determine one’s eligibility is being broadened to include trustee and company income.  This applies to Trust's where the applicants are settlors and companies owned by these Trusts.  Various other items of otherwise exempt taxable income are also now included in the assessment.  This was a change signalled when the budget was read in May.  It represents an attempt to address the Government’s concerns about the integrity of the social assistance regime. 

Naturally the above is merely a broad brush summary of the changes.  If you have concerns particularly in relation to GST and eligibility for Family Assistance then please contact us.

LAQC / LTC TAX CHANGES

As you will now be well aware the LAQC / LTC tax changes are fast approaching.  They take effect 1 April 2011.  If you have an LAQC and you have not yet discussed with us what course of action to take you need to contact us urgently and book an LAQC/LTC review meeting.  As a recap some of the key points to note in respect of the rule changes are as follows:

• If you do nothing your LAQC will remain an LAQC, but a rule change from 1 April 2011 means shareholders of LAQCs can no longer claim tax losses.  In other words the LAQC loses the ability to attribute its losses to shareholders.  In most cases doing nothing is not an option.

• In conjunction with the LAQC/LTC changes, depreciation can no longer be claimed on buildings.  In many cases this means that tax losses that are currently being experienced will turn to tax profits.  This means you need to ask the question as to whether your current structure is appropriate given this change in tax result?

Broadly speaking if you have an LAQC at present you have a number of options available to you including the following:

• Do nothing and remain in the LAQC regime - although as noted you will not be able to attribute losses to shareholders.

• Convert the LAQC to an LTC, but leave everything else the same.

• Convert the LAQC to an LTC, but at the same time examine whether the shareholding structure in relation to the company is appropriate.

• Convert the LAQC into an ordinary company and potentially restructure the shares as well.

In summary, the changes to the LAQC rules and the implementation of the LTC regime means that all existing LAQC clients need to have their affairs reviewed to determine what the best structure is for them from 1 April 2011 onwards.  We are offering LAQC/LTC review meetings at a discounted cost of $150 plus GST.  Do not delay in setting this meeting up as you need to have the advice in advance of 31 March 2011.

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.

Since announcing in May that the LAQC regime was going to be the subject of an overhaul the property investment community has been anxiously awaiting the Government’s follow-up to the Issues Paper released at the time.  On Friday 15 October 2010 draft legislation was released.  As at the time of writing all practitioners, including myself, were poring over the draft to get to grips with the new regime.  The objective of this article is to provide an overview of the proposed rules.  Contact Us At GRA

Recap

In May sweeping changes to tax rules were announced with the ones of most significance to property investors being the prohibition on claiming depreciation on buildings after the end of the 2011 financial year and drops in personal income tax rates.  At the same time the Government announced that they wished to review the current tax rules in relation to LAQCs.  In the Issues Paper it was proposed that LAQCs would be treated as limited partnerships for tax purposes with the three main consequences of this being:

• LAQC profits would be attributed to shareholders (as well as losses).  Perhaps unsurprisingly the IRD had expressed concern that the existing tax rules allow an arbitrage in that shareholders of a loss making LAQC can offset losses against their personal income where the tax rate has historically been as high as 39%, whereas they could hold shares in a profit making LAQC and have the profit taxed at the lower company tax rate (historically 33%, now 30% and moving to 28% from 1 April 2011).
• Losses able to be claimed by shareholders to be limited to the shareholder’s “investment“ in the LAQC.  Broadly speaking this was proposed to include capital of the company, together with retained profit and any company debt guaranteed by the shareholders.  Shareholder loans were not included and many submissions were subsequently fielded on this point.  The objective here was to limit the ability of the shareholders to claim losses that exceed their economic exposure to the activities of the LAQC.
• Shareholders to be regarded as owning the underlying assets of the company for tax purposes.  This meant that upon disposal of shares there would be a disposal of the underlying assets potentially triggering depreciation recovery or tax on any “tainted” gains through association to dealers, developers etc.

Draft Legislation

With draft legislation now available it is clear that the Government is committed to implementing these changes and the outcome is largely as set out in the original Issues Paper albeit that the route chosen is simultaneously more complicated, but more friendly for taxpayers.

The headline of the draft legislation could well be “LAQCs are gone”.  From the 2011/2012 income year existing LAQCs will no longer have the ability to attribute their losses to shareholders which effectively represents the end of the LAQC regime.  Before readers with LAQCs that are going to produce tax losses post 2011 throw their hands up in despair let me introduce you to the new LTC structure.   Contact Us At GRA

The new LTC rules (LTC stands for “look through company”) are essentially the same as the proposed rules in the Issues Paper released in May.  In other words an LTC is a company that will be taxed as a limited partnership.  All profits and losses of an LTC will be attributed to shareholders in accordance with their shareholding interests.  If losses are produced the shareholders ability to claim those losses and offset them against other forms of income will be restricted if the losses exceed what is known as their “membership basis”.  Broadly speaking the membership basis is as noted above with the confirmation that shareholder loans are included in the calculation.  The sale of shares in an LTC will be treated as the sale of the underlying assets so that potentially issues like depreciation recovery will arise.  In saying that it is noted that there are thresholds and exceptions as to when there will be a tax cost. Contact Us At GRA

Transition Options & Relief for LAQCs

On a positive note the new rules contain extensive transitional rules that allow existing LAQCs to seamlessly transfer into the LTC regime or into an alternative limited partnership, general partnership or sole trader structure if desired without a tax cost.  This is an excellent outcome for taxpayers utilising LAQCs at present.

Perhaps the best way to sum this up, if you have an LAQC at present going into the 2011/2012 income year you have four options as follows:

• Do nothing which will see your company remain an LAQC but lose the ability for the losses to be attributed to the shareholders. 
• Transition into the LTC regime.  Under the draft legislation you will have six months to file an election with the IRD to convert your LAQC into an LTC which will then see it taxed as noted above.
• Take advantage of the transition provisions to restructure your LAQC into a limited partnership, partnership or sole tradership.  Any such transition will not come at a tax cost but there are restrictions as to when this is available.
• Revoke LAQC status and have the company revert to being an ordinary company. 

Comment

In my view, the new rules contain no greater issues for investors that currently operate LAQCs than were raised in the original Issues Paper.  It is fair to say that the introduction of the new LTC regime complicates matters in that investors will now have grapple with a new regime but it seems likely to me that most will choose to transition their LAQCs into the LTC regime.  Whilst an LTC has potential disadvantages in terms of the potential limitation of losses and the disposal of shares potentially triggering tax consequences these potential disadvantages may not be an issue for many investors.  In most cases the shareholders of an LTC will be guaranteeing the debt and therefore the shareholder’s membership basis will likely always be large enough to allow full ability to claim any losses produced.  The treatment of a disposal of shares as being the disposal of underlying assets is definitely an issue for those of you whom have properties that have been heavily depreciated and you should seek advice as to your options prior to 31 March 2011 if you are in a situation.

In closing, I see the LTC as effectively replacing LAQCs and see them as being widely used by investors.  Having said that, the transition process presents both opportunities and risks for investors and I urge you to get advice in relation to your existing LAQCs and the transition options prior to 31 March 2011. Contact Us At GRA

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.