For many people, building a rental property portfolio is the path to a comfortable retirement.
In the past, they’ve been able to offset any losses on the rentals against their other personal income.
So, if you had a salary of $80,000, and made a loss on your rental of $6,000, then you paid tax on $74,000. This generally created a tax refund of $2,000. People were using that $2,000 to help cover a portion of the loss.
Here’s the questions we’re commonly asked on the looming changes:
Why have they bought these rules in?
Capital gains tax is a political hot-potato that no one wants to handle. A capital gains tax would discourage people buying rental properties by making them pay tax come sale time.
Instead, they’re bringing in these loss ringfencing rules. These discourage people from buying rentals in the same was as a capital gains tax but do it by making them pay more tax while they own the properties (rather than making you pay tax on sale).
So, what will it mean for me?
Using the example above, you’ll no longer get the $2,000 refund you’re used to.
If on the other hand you have a rental property which makes money (through low debt levels) then there is no fundamental change for your situation.
When will it kick in for?
The new rules are currently before Parliament. It looks like they’ll be applying from April 2019, although there is talk of them being phased in over two years. Watch this space.
What does it apply to?
It applies to all residential rental properties, including anything which is rented out short term in a quasi-commercial scenario (think AirBnB).
If you’ve got a commercial property, then you’re in luck—these rules only apply to residential rentals. We expect to see increased demand for smaller commercial properties.
What if I’ve got a mix of properties?
If you own some properties which make profit and others which make a loss, then there is a silver lining. You’ll will be able to offset the loss from one rental against the profit from the other.
What this incentivizes is clever portfolio design. It comes down having a portfolio with a balance of profit-making and loss-making properties – the profits from the profit-making properties become tax free.
Should I increase the rent I charge?
Potentially, subject to the rental market in your area. Ultimately, you’re carrying a bigger share of the rental cost, and that needs to be picked up by someone—either you or the tenant.
Should I sell my rentals?
No. If you’re selling your rental just because of a change in tax rules then you’re likely selling for the wrong reason. There’s a reason you bought the property, beyond just a tax refund.
At the same time, if your cash is stretched by the change then weigh your options carefully. Most people lose money selling in a time of financial distress.
Should I restructure my portfolio to mitigate the new rules?
Potentially, but, it’s important to weigh up the impact of the new five-year Brightline test. This means if you buy and sell a rental within five years then you’re caught by a capital gains tax.
Expert tax advice should be sought before undertaking any property transaction. We’re always happy to help – get in touch for an initial no obligation discussion.
We don’t yet have the final detail on the shape of the new rules. They’re still before Parliament and subject to change. That said, the Government has been clear with their intention in this area so we don’t expect significant changes.
If you’re concerned about the impact these changes will have on you, then get in touch today for an initial consultation.