Ring Fencing of Rental Property Losses | An update
What started as simply an idea put forward by the latest Tax Working Group is starting to look more like reality with the issuing of a White Paper by the Policy Team at Inland Revenue. This paper is seeking to ‘ring fence’ losses from rental properties to ensure that they can no longer be used to offset other taxable income to reduce tax payable and in most cases generate a tax refund due to negative gearing.
The rental losses won’t be forfeited; instead, they will carry forward and can be offset against future rental profits. This is just a timing issue, but for some property investors who rely on a tax refund to offset the cost of holding the property, the impact will make a big difference.
Ordinarily, a taxpayer can expect to have a deduction when the cost incurred is connected with their income earning activity. In the case of rental property investors, any losses incurred are the result of an actual cash outlay which has been funded personally from other income sources or debt. Under the proposed changes, no relief would be available until a property becomes cash flow positive.
These new rules mean that property investors will need to fund losses from negatively geared properties themselves until the property becomes cash flow positive. If an investor has more than one property, they will be able to offset losses from one rental property against rental income from another property or properties and thereby calculate the overall profit or loss on a net portfolio basis.
In its current form, the new changes will not apply to beach houses and holiday homes which will still be subject to the mixed asset rules and will fall outside of these proposed changes.
If these proposed changes become law, we expect that the ring-fencing rules could apply from as early 1 April 2019 and may be partially phased in over a number of years.
If property losses are ring-fenced, investors will need to start looking at ways to bring negatively geared properties to a neutral position. This could be achieved by a reduction in debt levels, however, it is more likely that investors will raise rents in order to compensate for the loss of deduction.
At this point it is business as usual, however, if the proposed changes are implemented, we will be ready to assist our client’s with strategies to reduce the impact.
Contact us now for a no obligation discussion about how we can help you.