The GRA Blog

The long awaited new associated persons rules have finally passed into law.  On 6 October 2009 the legislation received Royal Assent.  The new rules apply to land acquired on or after 6 October and in certain instances to improvements made to buildings after that date.  More on that later, but to begin let’s briefly revisit what these rules are about. 

In the context of land transactions, up until now, it has been possible to arrange your affairs so that if you wanted to carry out property dealing / development or building activity you could separate this from your investment properties and prevent the former from tainting the latter.  The IRD have long seen this as a weakness in the legislation and a loophole and for the last couple of years have been pushing for reforms to be enacted.  The end result is that there is a new series of associated persons tests that are extremely comprehensive. 

They include new tests that associate two Trusts, new wider tests to associate two companies and companies to shareholders and a tripartite test whereby two parties can be deemed to be associated, even though not directly associated to each other, but where they have a common party to which they are both associated.  Where a property is tainted, a gain that otherwise would not be subject to income tax, is subject to income tax if sale occurs within 10 years of acquisition (or in some instances within 10 years of completion of improvements).

The new association rules are so comprehensive that if you are engaged in the business of property dealing or development and you wish to acquire an investment property post 6 October 2009 it is highly likely that the property will be tainted.  In fact the rules are designed to be so comprehensive that it is likely that the IRD would view any attempt to structure around them as tax avoidance.  That being the case, if you currently run property dealing and development activity via a Trading Trust for example, it might be tempting to wind up the Trust and trade via a different structure, but in our view this might be “throwing the baby out with the bath water”.  That is, while a Trading Trust might not necessarily prevent association anymore, it does not follow that it is automatically the wrong structure.  There are other beneficial aspects of using Trading Trusts such as flexibility in distributing income and good asset protection. 

Another aspect of tainting that taxpayers need to bear in mind is that the association to the property dealer or developer has to exist on the day that the investment property (that you do not wish to be tainted) is acquired.  Taxpayers who cease their property dealing and development activity no longer have a tainting issue and can then acquire rental property free of tainting risk.  This means if you have entities that have been involved in these types of business in the past, you should consider winding them up to cease any tainting risk. 

We also note that you have to be engaged in a business of property dealing and development.  There may be instances where somebody has conducted one or two property trade transactions but is not necessarily engaged in a business such that they would have a tainting risk. 

Finally, you should also recognise that even under the new comprehensive association rules, the 10 year test still applies. This means in a worst case scenario where a property is acquired and tainted as a result of association to a property dealer or developer you can still break the tax impact of tainting by holding the property for 10 years.  As a technical point you should note that if you are in the business of erecting buildings then tainting only applies if you make improvements to the rental property, but then applies to sale within 10 years of completing the improvements.

The moral of the story is if you are acquiring property or just concerned about the impact of these new rules on you, you should seek advice.  Please contact the writer at mg@gra.co.nz or 09 522 7955 to discuss.

Matthew Gilligan
Director

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

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Dear Clients

We understand that the agreement will be made available to real estate agents in New Zealand for use over the forthcoming months.

For over twenty years, the buying or selling of property in New Zealand has been recorded using a standard agreement produced jointly by Auckland District Law Society and the Real Estate Institute of New Zealand. The agreement is now in its 8th edition having been improved over the intervening years to take account of changes in the way in which property is bought and sold in New Zealand and to take account of changes in the law over that time. 

The ADLS/REINZ 8th edition Agreement is tried and tested. It has been the subject of many court cases in which its provisions have been scrutinised and upheld. It has been taught in our law schools and been the subject of much academic commentary. 

The ADLS/REINZ 8th edition Agreement has a proven track record, its provisions are easily understood and it helpfully regulates the way in which practitioners deal with each other and third parties through the course of a sale or purchase of land. It is a “no surprises” agreement.

On the other hand the new REINZ agreement introduces new concepts, rules of interpretation and time frames which may be unexpected, particularly if you have previously bought and sold property using the ADLS/REINZ 8th edition Agreement.

So, if you are planning to either buy or sell property in the near future, please contact us for legal advice prior to signing any agreement.

In most situations, we will advise the continued use of the ADLS/REINZ 8th edition Agreement until such time as the provisions of the REINZ agreement become well known, judicially interpreted and well settled. This may take a considerable period of time. 

Don’t be persuaded to use the plain English format of the new agreement. Plain English wording can be just as problematic as complex legal wording, particularly where the agreement has not had the benefit of many years of use.

Remember that all agents have access to both forms of agreement so this should not present any difficulty or delay in the buying and selling process.

Please contact our team if you have any further queries about this letter or you require any further detailed information.

Thank you,

Matthew Gilligan
Director

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

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Warning To Solicitors, Accountants and Trustees/Trust Advisors...

BEWARE THE APPOINTOR IN NEW ASSOCIATED PERSONS RULES

(11 August 2009)

While the Finance and Expenditure Select Committee managed to weed out much of the over-reach of the new associated persons definition there still appears to be a glaring problem in relation to the Trust to Appointor test in section YB 11.

In the Official’s Report to the Finance and Expenditure Committee on submissions on the bill, the Committee was made aware of the potential for s YB 11, when coupled with the tripartite test, to lead to otherwise unrelated Trusts being associated when professional advisors are nominated as Appointors. This valid concern was raised by Tomlinson Paull and whilst accepted by the Committee, not enough has been done to prevent the undesirable outcome of otherwise unrelated entities from being associated to each other.

As background, this is about association rules between dealers in land, developers or builders and other entities in the business of buying and holding property that are ‘related’ by the associated persons rules. The concern is that if associated, an entity buying property to hold will be taxable on capital gains on properties sold within ten years of acquisition, if at time of acquisition the buy to hold entity was associated to a dealer, developer or builder.

The rules are changing and are much wider than they were, introducing the prospect of:-

Section YB 11 in the new Taxation Remedial bill associates Trustees of a Trust with the person or people who hold the power to appoint and remove Trustees. In short, a Trust is associated with its Appointors. The tripartite test at s YB 14 associates two parties where there is a common associate of both provided that the common associate is not associated to the two parties under the same rule.

For this reason, if a professional holds the Power of Appointorship in respect of a Trust (being Trust “A”) and then holds the Power of Appointorship in a second Trust (Trust “B”), there will not be association between the two Trusts under the tripartite provision as the common associate (being the advisor) is associated to both Trust A and B under the same test.

The Select Committee held this limitation out as being the reason why there would not be unintended Trust to Trust association. Whilst it is true this will prevent an advisor who holds this power in respect of multiple Trusts from creating inadvertent association between the Trusts, the door is still left wide open for there to be association on a far wider scale than surely could have been intended.

To explain further, consider the situation where an advisor accepts a role as Appointor in relation to a Trust that is going to buy an investment property. The Appointor is related to the Trust under s YB 11. The same Appointor might also own shares in a development company, perhaps be Settlor of a second Trust (otherwise unrelated to the first) that is involved in property development or might even be deemed to hold shares in a company involved in development under s YB 3.

What this demonstrates is that there is a raft of other provisions that might associate otherwise unrelated Trusts or companies to the Appointor then leading to association between these other entities and the first Trust under s YB 14. This is obviously not a problem that is fixed by the exclusion of not being able to apply the same rule twice in s YB 14.

Negligence Prospect

Of course reading this you might say that the advisor in that instance would be negligent in accepting the role of Appointor given that they should be aware that they are associated to a development company, and you may be right. What taxes could arise from this on other client’s assets as a result of this oversight?

Thirty percent of capital gains in the next ten years, on assets acquired during the period of association would be an approximation of the answer. However, there might be situations that arise where the advisor has less control over the matter.

Whilst uncommon it is not completely unheard of for an advisor to be a “back up” Appointor in respect of a Trust when the original Appointors die. Or what if a client decides to start trading / developing / building property in their Trust that you are appointor in and does not tell you ? Or what if IRD deem such activity to have existed ?

Summary

It seems clear to us that this is a flaw in the associated persons provisions that was quite rightly raised before the Select Committee but their proposed solution does not work.

The moral of the story clearly is to be careful whom you nominate as an Appointor in respect of your Trusts both now and in the future. It can lead to unwanted consequences. 

A brief background on the new associated persons rule changes (if you are interested) is here.

Remember these blog articles address the general public and are therefore simplified in the blog for the intended reader.

If you would like help with understanding how this affects you, or have a question, we are here to help.  You can Request a Free Interview or use our Ask the Experts service.

Until next time,

Matthew Gilligan
Director

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

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Many clients have been asking me if I think this is a better time to be investing in NZ. I think the answer is yes, but you need to be careful.

The Good news:

• Immigration is on the rise - annualising at close to 20,000 people, nearly double our 10 year average (which is closer to 11,000 average annual 'net' migration inflows into NZ). This means real demand for housing in NZ is picking up all around us as we speak. Great for rents, great for mopping up surplus housing stock and land.
• Building consent applications are at at rock bottom, - meaning supply of housing stock is slowing.
• There are bargains around - lots of distressed vendors and mortgagee sales.
• Short term interest rates are low, albeit the long term rates are up. Rents never get closer to covering interest and outgoings than they do at present.
• NZ is weathering the global recession 'better than most countries', with many feeling better than they did 6 months ago and a bit of business confidence returning. Perhaps one of the reasons is because one of our largest trading partners, Aussie, is doing so well. Perhaps another reason is our banking system is less sophisticated, so we have less subprime/derivative exposure fallout and corresponding stability in banking. Or perhaps its America printing cash, flooding liquidity into the global banking system. And perhaps, its the influence of the government underwriting interbank lending and deposits, which has kick started things. A lot has been done in the last 9 months globally, and business is recovering.

The Bad News:

• The government have last week announced immigration policy is to be tightened, slightly. ( Boo.)
• Everyone is asking how America and Europe can print all of this money, and not cause an inflation bomb in the next couple of years ? I am certainly concerned about that.
• Exporters are not getting a traditional 'recessionary' low exchange rate, which should prevail and produce much needed exporter relief. Why is our exchange rate staying so high at USD $63-65c, killing our exporters margins ? Because NZ is doing better than our trading partners - this is a global recession. The upshot is employment and recovery prospects are muted.
• We must seriously ask ourselves, is America delaying the inevitable paying interest and debts with printed money ? Or will they 'inflate their way through debt', with super high inflation undermining the value of debt over time ? Is this their strategy, - inflate asset values and erode the value of debt ? I don't know the answer, but it is an interesting question.
• Of course with high inflation will come high interest rates. Lock up your interest rates long at the first sign of inflation emerging globally.

Economists Comments Intrigue Me

What intrigues me is the economists view of things in the middle of quagmire. Statements like, " housing is down 12% and we think it has a bit further to go, perhaps another 5%" said one prominent bank economist 5 months ago. So his conclusion was don't buy, - where I formed exactly the opposite conclusion from the same information. I felt a falling market full of fear = great time to buy.

Economists assume you are going to achieve the average. So if the market is down 12%, you will buy at 12% off the 2007 peak, and lose 5%....right ? Well I guess that's right if you go about things in an average orderly way.

Buy At A Discount - Cliche But True

My clients know this is bargain season, - soon to be followed by recovery season ( whether it's a year, or 6 years, who cares. We are long term investors, right ?) So we know that if things are down 12%, we would be buying 10-20% below that...which means about 20-30% off the 2007 price. So then we are well below both the historic peak price of 2007, and well below current market value. Which makes us safe, if things go down that extra 5%.

Cashflow Is Always Key

If we buy properties with good cashflow ( there are plenty around at present that at the very least are positive cashflow post tax (refund), and some even positive cashflow pre-tax (refund)), - then the recovery period is free capital growth. You do not have to fund the property, - so the recovery to former peak value ( however long it takes ) is free growth. Then in the next boom, - we get real growth again beyond the former peak.

Be Careful Though

The auction houses are full of new home buyers and investors drunk on low interest rates and recently relaxed lending criteria....you need to buy at large discounts, or you will not get growth for a very long time. That means you need to investigate the peak value in 2007, then take 30% off. That may mean that 99% of the deals don't work. But when you finally get one, - well its worth the effort.

GRA clients are bringing in great deals all the time at present...so get back in the market and start bargain hunting.

My advice is get off the beaten track and stay out of the overly populated auction houses. Look for things that are outside the square, like leaky houses for renovation, properties to land bank ( if you have the cashflow to support there are some great buys), coastal property, and distressed development property. Knock on the door of finance companies and developers....they like dealing direct with no agent.

Associated Persons:  Update!

The much talked about new Association Rules are back before Parliament and unfortunately for those in the business of dealing in or developing property or erecting buildings, the Bill has not been substantially changed. The new expanded definition of association has largely survived the Select Committee process and the new rules are likely to come into force in August, potentially from early August.

We are currently working through the rules so if you are looking to buy a rental property in August please contact us for advice if you are concerned about potential tainting.

Holes In The Legislation Revealing Opportunity To Break Tainting

Contrary to previous media releases we have made about the new associated persons rules, we have found the latest rules released (which are expected to be implemented) do provide some opportunity to crack tainting. Talk to us if you are interested in how to break the new associated persons rules. There are some limited situations where this might be possible.

Important Note for Builders

If you are in the business of erecting buildings this is the one activity that could lead to tainting of existing properties. To explain, if you are a dealer or developer only (ie. not involved in the business of erecting buildings) any rental property that you own now and that was not tainted under the existing rules will not be affected by the new rules. Further purchases could be, but your existing rentals will not be.

On the other hand, if you are in the business of erecting buildings, existing rental properties that you have could be tainted if you carry out improvements on those properties. If you are in the business of erecting buildings and are looking at making improvements to a rental property then contact us immediately as you need to know the implications of this.

Changing Use on Existing Stock

The other major impact that the change in Association Rules has is for those of you who have property bought for dealing and development purposes where you are considering a change of use. If you have a property bought for dealing and development purposes and you are considering holding it (ie. making a complete change of use in respect of that property) you need to contact us urgently and consider restructuring the ownership of that property in the next two weeks before the new rules come into play.

Summary

In summary, the new Association Rules are coming in and as feared they are wide reaching and going to make it very difficult for those engaged in a business of dealing in or developing property or erecting buildings to prevent future rentals from being tainted. More immediately than that though, if you have property owned by your dealing and development entity that you now wish to hold long term you may need to take action within the next two weeks to restructure the ownership of that property before the rules change. If you are in the business of erecting buildings you also have to be extra careful if making improvements to existing rental properties.

If you want tax advice in relation to these issues please request an interview, contact the writer Matthew Gilligan (mg@gra.co.nz) or Anthony Lipscombe (anthonyl@gra.co.nz) or call 09 522 7955.

Thank you,

 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.

The much talked about new Association Rules are back before Parliament and unfortunately for those in the business of dealing in or developing property or erecting buildings, the Bill has not been substantially changed.

The new expanded definition of association has largely survived the Select Committee process and the new rules are likely to come into force in August, potentially from early August.

We are currently working through the rules so if you are looking to buy a rental property in August please contact us for advice if you are concerned about potential tainting.

Important Note for Builders

If you are in the business of erecting buildings this is the one activity that could lead to tainting of existing properties. To explain, if you are a dealer or developer only (ie. not involved in the business of erecting buildings) any rental property that you own now and that was not tainted under the existing rules will not be affected by the new rules. Further purchases could be, but your existing rentals will not be.

On the other hand, if you are in the business of erecting buildings, existing rental properties that you have could be tainted if you carry out improvements on those properties. If you are in the business of erecting buildings and are looking at making improvements to a rental property then contact us immediately as you need to know the implications of this.

Changing Use on Existing Stock

The other major impact that the change in Association Rules has is for those of you who have property bought for dealing and development purposes where you are considering a change of use. If you have a property bought for dealing and development purposes and you are considering holding it (ie. making a complete change of use in respect of that property) you need to contact us urgently.  You should consider restructuring the ownership of that property in the next two weeks before the new rules come into play.

Summary

In summary, the new Association Rules are coming in and as feared they are wide reaching and going to make it very difficult for those engaged in a business of dealing in or developing property or erecting buildings to prevent future rentals from being tainted.

More immediately than that though, if you have property owned by your dealing and development entity that you now wish to hold long term you may need to take action within the next two weeks to restructure the ownership of that property before the rules change. If you are in the business of erecting buildings you also have to be extra careful if making improvements to existing rental properties.

If you want tax advice in relation to these issues please contact Anthony at GRA on 09 522 7955 or at anthonyl@gra.co.nz

Thank you.

Matthew Gilligan

Why the obsession with property as an Investment?

Everyone has their own ideas on investing and their own theories on what makes a good investment for them. I have my theory of why I love property as an investment and if you'll permit me, I'd like to share it with you.

So how does it all work.......and why?

For me as a home owner (with good equity in my own home). I can take out a line of credit (extra mortgage) on my own property and use it as a deposit on my next purchase. The Bank will lend me 80% (providing my income is sufficient to service the loans) of the purchase price of my Investment Property.

I start by looking for properties that I can get at a discount (less than they are worth) and that are positive cash flow (returning more in rent than I will have to pay out in expenses).

What Would be a Good Property Deal Look Like? 

• Purchase Price $300,000
• Registered Valuation $375,000
  
• Rental Assessment $475 per week 

As I said above, the Banks will lend me 80% of the purchase price of my Investment Property, so in this instance they will lend me $240,000 (and the additional $60,000 I have mortgaged against my existing home), so in effect I have borrowed 100% of the value of the property with 2 separate loans.

However once I have owned the property for 6 months or more the Bank will refinance me and allow me to borrow 80% of the valuation. So at this stage I will go back to the Bank with my registered Valuation of $375,000 and borrow 80% of this which is $300,000. I now have the whole mortgage under one loan and I return the $60,000 back to my own property (called recycling your deposit). For this reason my target is to buy at least 20% below valuation because then I know I can recycle the whole deposit back as above.

Consider Rental Returns

The other consideration then becomes the rental return. In this example the rental assessment on the property is $475 per week, or an annual rental of $24,700, or a return of 8.23%. This shows that I have paid $300,000 for the property and each year I can earn 8.23% back in rent.
 
This figure is important because I know that the Bank is going to be charging me Interest on the $300,000 I have borrowed ($240K + $60k, then $300k when I recycle the deposit). For me on this property I want some surety so I decide that the loan I take out with the Bank is a fixed loan for 3 years at 6.99%.... 

• Mortgage $300,000 @ 6.99% = $20,970 pa
• Council Rates = $1,300 pa
• Insurance = $500 pa
• Maintenance = $1000 pa
• Total Costs - $23,770
• Rental $475 per week = $24,700
• Property Cashflow positive by $930 pa (or $17.88 per week)

• Banks lends me all the money
• Tenant pays all my costs
• IRD gives me a tax refund

Declan Wyndham-Smith
Manager
Property Procurement
Gilligan Rowe + Associates LP

Learn more about Declan
Email: declanw@gra.co.nz
Direct Dial Ph: +64 9 522 7948

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If you’re interested in developing long-term wealth and you see property investment as a way to achieve it, then I think you'll enjoy this article.

Did you know that when it comes to starting out in property investment, you really have two ‘paths’ you can take?

They are:

• The “DIY” path

• The “Hire-a- Professional” path

Each path has advantages, and there is no right or wrong option, it depends on you. This could include the amount of time you have, your attitude to risk and your approach to life.

But first…

New Zealand has a great tradition of being the No. 8 wire and DIY experts of the World, this pioneering spirit and ability to turn our hands to anything we want to do has made us the country and people that we are.

We were brought up with the old school attitudes of “why pay someone when you can do it yourself?” I think we all know horror stories of family members or urban legends of Kiwis who have done things for themselves...

I know I was brought up in a house where at least 3 of the power points were switched up for on and down for off! I’m sure the Fire Service and Ambulance Crews have also experienced many instances of DIY wiring in houses.

However life in New Zealand has moved on. We are all now busier in our lives the 40 hour working week seems to have sneaked out to 50 – 60+ hours and the travelling times have doubled or trebled in most urban areas.

This has lead many Kiwis to take a more pragmatic look at DIY. And those who may have been strong believers are now looking at the cost of paying someone to do a job versus the value and the opportunity cost of us doing something ourselves.

A good example of this is lawns.

I, like many others get someone in to mow my lawns, why? Is it because I can’t do it myself? No. Is it because I am too lazy? Perhaps. But, really it is because I work hard and quite long hours. I have the weekends off and really enjoy family time, my weekends tend to be full of children’s sport and playing myself. So for me the value of paying someone to do my lawns is an investment in time for me.

This translates into all sorts of areas of our lives. For example I like cars, but I don’t know anything about how they work. I could learn to fix and service my cars myself, but I choose to use an expert mechanic to work on my cars, although I also know some people would never let any one near their precious vehicle.

What Has This Got to do With Buying Property?

When it comes to Investing, the choices are the same. You can become the “DIY investor” or you can now get the experts to do it for you. There are many companies and individuals out there who will ‘teach you to be an investor’ and there are definitely people who have done very well from learning the skills and following their training and suggestions.

But just because you have access to the right knowledge, doesn’t guarantee it will apply in practice. It takes:

• hard-work

• insight,

• good timing and

• a higher tolerance of risk and,

 …experience.

Pure theory (often taught by people who haven’t done it themselves) will not give you the wherewithal to be a successful investor. We think that nothing prepares you for the ‘Real World” except experience. Would you agree?

Yes, many DIYers are willing to pay the price and get good investment returns. And good on them.

But many are not. And that’s where we can help.

We’re Ready to Help You Flatten Out the Learning Curve

If the DIY pathway isn’t for you, you need to contact me personally – right now. I’m not kidding. You’ll get a free consultation and the chance to see if our “Property Procurement” service is really for you.

Of course we charge a fee. But it’s affordable and lower than you might think compared to the VALUE and peace-of-mind we deliver for clients.

Hype-Free Zone

We see more and more clients who tell us “I do not want to go to a seminar or workshop just to be sold to”. And fair enough too. Many people see them simply as very clever marketing tactics to extract money from honest people who don’t know any better.

Many of our clients are interested in investing, but don’t have the knowledge and/or time to do it themselves. Instead they want prudent guidance based on proven experience in a hype-free environment where everything gets explained properly.

If you’d like to find out more, go ahead and contact me for a free initial discussion.

Declan Wyndham-Smith
Manager
Property Procurement
Gilligan Rowe + Associates LP

Learn more about Declan
Email: declanw@gra.co.nz
Direct Dial Ph: +64 9 522 7948

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.