MIXED USE ASSETS – RENTAL OF HOLIDAY HOMES
Taxpayers who rely on rental property losses will already be aware of the proposed changes from the 2012 Budget, where the Government confirmed it would be tightening the rules for taking deductions on assets used privately and to generate income ("mixed-use assets").
These changes are in keeping with the removal of tax depreciation on buildings from the 2011/2012 year, and will obviously impact on those who own a holiday home which they use personally but rent the property out for a portion of the year.
The Revenue Minister, the Hon Peter Dunne, recently spoke about the proposals which involve apportioning expenses that are not directly attributable to either private or taxable use.
The calculation of the proposed apportionment is a simple one – it will be based on the number of days that an asset is used privately versus the number of days the asset is used to generate income.
An interesting aspect of the proposals is the suggestion that some losses will be ring-fenced (will not be able to be offset against other income). This would impact on those earning low levels of income, for example where the gross income derived from the asset in a year does not exceed 2% of its cost (or rateable value for land and buildings).
Such losses may still be carried forward, but only to offset future income from that specific asset.
The rules may be opted out of if gross income does not exceed $1,000, or if the asset produces a net loss. Opting out may provide benefits for some, as by treating income as exempt and expenses as non-deductible, compliance costs may be significantly reduced.
These proposals will automatically apply to assets which cost more than $50,000, and to an asset where 62 days have passed without active use. Assets used privately by the owner (or by an associated person), and assets used to generate income will also fall within this category.
How it affects you
At this stage, there has been no comment on how these rules would interact with the Fringe Benefit Tax and dividend rules.
Further, it is quite possible that the proposals will be altered and adapted following further discussion and submission.
While we will keep you informed of these proposals as they develop, if you own any mixed-use assets, we recommend you seek advice to clarify your tax position.
RENTAL LOSS AND WFFTC
There have been many changes to the definition of family scheme income, all of which have been designed to bring as much into the income net as possible when determining a person's eligibility for Working for Families Tax Credits ("WFFTC").
One such change has been to eliminate losses from the calculation of family scheme income.
In a recent court case the taxpayer was a self-employed artist who was married with five children and, for WFFTC purposes, was the principal caregiver. The taxpayer and her husband, as a partnership, owned a number of rental properties in a provincial city. The taxpayer's share of the losses from the rental partnership was offset against her income in the 2007 and 2008 years. The taxpayer's husband also offset his share of partnership losses against his income in the 2006 to 2008 (inclusive) income years.
Accordingly, the WFFTCs claimed by the taxpayer were based on family income which had rental losses deducted from it.
The Taxation Review Authority (TRA) has held that the Inland Revenue Department ("IRD") was entitled to disallow rental activity losses claimed by the taxpayer for WFFTC purposes.
The Income Tax Act 2007 provides that from the income year commencing 1 April 2011, investment losses are excluded from the calculation of family scheme income. An investment activity includes the passive holding of an investment asset, including but not limited to a rental property, but does not include a bank account.
In this case, the WFFTC claim by the taxpayer and her husband was for the 2006 to 2008 (inclusive) income years when the limitation of losses related only to business activities. The IRD added the rental losses back into the specified "family income" on the basis that a business loss cannot be deducted from income of WFFTC claimants.
The taxpayer accepted that the rental property operation could amount to a business but maintained that there was no business because she did not intend to make a revenue profit but only a capital profit by way of capital growth in the value of the properties.
The TRA held that the taxpayer and her husband were undertaking the activity of a property owning and letting business at all material times.
How it affects you
Seek advice before claiming WFFTC if you have any income other than from employment.
POINTS OF INTEREST…
The IRD has proposed to set a general depreciation rate for automated meal feeders, which will create a new type of asset in the "Agriculture, Horticulture, and Aquaculture" industry category.
The IRD has recently released General Depreciation Determination ED0149, which proposes to add a Mushroom Factory to the "Building and Structures" industry category, with an estimated useful life of 33.3 years.
In a recent dispute where a taxpayer failed to keep adequate business records, the TRA accepted the IRD's assessments.
TO THE POINT…
"A neurotic is a man who builds a castle in the air. A psychotic is the man who lives in it. A psychiatrist is the man who collects the rent."