Appendix - International approaches
The issue of the deductibility of expenditure in relation to mixed-use assets is not a problem unique to New Zealand. Other countries have considered this problem and have developed rules that prescribe the amount of deductions owners of mixed-use assets can claim.
2. Australia’s method of taxing mixed-use assets is almost identical to the current New Zealand rules – there is no specific regime that deals with mixed-use assets. Instead, the usual rules that regulate income and deductions apply.
3. A tax ruling (No. IT 2167) has been released by the Australian Taxation Office to assist owners of holiday homes in determining the tax status of rental income and their ability to deduct expenses. The ruling states that:
- Deductions are disallowed in periods when friends or family rent out the asset, and the owner does not need to declare income from such activities.
- Rent received from commercial letting, on the other hand, is assessable income and deductions for expenditure can be claimed in deriving that income.
4. However, deciding the amount of deductions for expenditure in relation to that income-earning use is the difficult question. In most cases the question should be determined in the light of previously decided cases. For example:
In Case No. P116, 82 ATC 590 : Case No. 49, 26 CTBR (NS) 372, a property was let for 16 days during the year of income, occupied by the owners for 107 [days] and vacant for the balance of the year. Taxation Board of Review No. 1 apportioned the losses and outgoings attributable to the property on a time basis and allowed a deduction for the proportion that the property was let, i.e. 4.4% .
5. In general the approach in the above case should be followed in comparable situations - owners can deduct expenses on a time basis when the assets is being used for actual income earning purposes and are restricted when the asset is being used for actual private purposes. However, if insufficient information is supplied, deductions will be limited to the rent received.
6. Deduction for periods when the asset is not being let out but is available for letting will depend upon the individual circumstances of each case. Evidence of whether active and bona fide efforts to let the property as a commercial rental were made during the relevant period will be taken into account.
The United States
7. The United States (US) has a set of rules that apply to certain assets that are used for both private and income earning-purposes.
8. These rules apply specifically to “dwelling units”. A dwelling unit is defined as basic living accommodation, including houses, apartments, condominiums, mobile homes, boats, vacation homes or similar property. However, a dwelling unit does not include a hotel, a motel or similar property that is regularly available for paying customers.
9. The amount of deductions owners of dwelling units can claim depends upon whether the use of the asset falls above or below certain thresholds. Three-outcomes are possible:
- The dwelling unit is regarded as being used purely for personal purposes if the asset is rented out for less than 15 days per year. In this situation, the owner is not required to include any of the rent as income and cannot deduct expenses.
- The dwelling unit is regarded as a home if the dwelling unit is rented out for more than 15 days, and the owner uses the asset for personal use for more than the greater of 14 days per year, or for more than 10 percent of the total days the asset is rented to others at a fair rental price. In this situation, the owner is required to declare rental income, and deductions for expenses are divided between the rental use and the personal use based on the number of days used for each purpose.
For example, an owner of a dwelling unit rents out the asset for 20 days and also uses the asset for personal enjoyment for 20 days in a given year. The amount of deductions the owner can claim is simply the income-earning use divided by the total use. In this scenario the owner can claim 50 percent of total expenditure (20 days / 40 days = 50%).
- The dwelling unit is regarded as a normal rental property if the personal use of the asset falls below either the 14 day or 10 percent personal-use thresholds and business use is greater than 15 days. In this situation, the owner is required to declare rental income, and can deduct expenses even when the property is vacant, provided it is available for rental.
10. Another important element of the US rules is that rental expenses that exceed rental income cannot be used to offset income from other sources. Instead, the loss can be carried forward to offset rental income from the next year.
Rental use and personal use days
11. Given the US regime relies heavily on private use and income-earning use days, the definition of private use and income-earning use days is very important.
12. Any day that the asset is rented at a fair rental price is a day of rental use even if the asset is used for personal purposes that day. However, any day that the asset is available for rent but not actually rented is not a day of rental use.
13. A day of personal use of a dwelling unit is any day that the asset is used by any of the following persons:
- the owner or any other person who owns an interest in the asset;
- a member of the owner’s family or a member of the family of any other person who owns an interest in the asset;
- anyone under an arrangement that lets the owner use some other dwelling unit; and
- anyone at less than a fair rental price.
14. Any day the owner spends working substantially full-time repairing and maintaining (not improving) the property is not counted as a day of personal use.
15. Generally, income from the rental of a mixed-use asset, such as a holiday home, will be treated as income from property. Canada treats rental income and deductibility of rental expenses in the same manner as Australia and New Zealand. For example, expenditure that relates to actual income-earning use is deductible, and expenditure that relates to actual private use is not deductible.
16. However, if the owner’s rental expenses are consistently more than the rental income, the owner may not be allowed to claim a rental loss because the rental operation is not considered to be a source of income. Consequently, the Canadian approach requires the owner to have a reasonable expectation of making a profit from the rental activities.
17. The United Kingdom (UK) has a special tax regime for properties that are let as furnished holiday accommodation. In essence, owners with properties qualifying as “furnished holiday lettings” (FHL) are treated as carrying on a trade under the FHL rules, and are taxed under the rules applying to trade income rather than property income.
18. A “furnished holiday letting” is a property in the UK or the European Economic Area (EEA) that is:
- let out on a commercial basis with a view to a profit;
- furnished (to at least the minimum level which an occupier would usually expect);
- available for holiday letting on a commercial basis for 140 days or more during the year (increasing to 210 days with effect from 6 April 2012);
- actually let commercially as holiday accommodation for 70 days or more during the year, (increasing to 210 days with effect from 6 April 2012); and
- not normally in the same occupation for more than 31 consecutive days.
19. Rent received from letting is regarded as taxable income and the owner can claim deductions for expenditure in deriving that income, including times when the holiday home was not in use, provided it was available for commercial use. However, the owner cannot claim a deduction for expenditure when the property is being used for personal purposes. Owners can also claim capital allowances on expenditure such as furniture, fridges, cookers, linen, cutlery and so on.
20. The main advantage of qualifying for “furnished holiday letting” (FHL) status was that, until changes made in Budget 2011 (which come into effect from 6 April 2012) it allowed owners to offset any loss arising from furnished holiday lettings against other taxable income, reducing the owner’s overall tax bill. This was in contrast to the usual treatment of losses arising from property letting under the property income regime, which could only be set against income from the same property-letting business. As a result of the changes announced in Budget 2011, from 6 April 2012, any losses arising from a qualifying UK or EEA furnished holiday-letting business can only be set against income arising from that same UK or EEA-furnished holiday-letting business; however, the rules for calculating profit/loss remain the same as those applying to trades, including the ability to claim capital allowances.
21. In addition, the FHL regime continues to allow certain capital gains relief, including business asset rollover relief, when the property is sold.
22. The French also have a special tax regime in place for holiday accommodation. Like the UK regime, income from furnished lettings is treated differently from unfurnished lettings. The distinction is that the letting of furnished property is regarded as a business whereas the letting of unfurnished property is regarded as a civil activity.
23. Furnished lettings are treated for calculation purposes as commercial income. When total rental income before deductions is less than €32,000 (€80,000 if the property is let out as a “Gite” – French holiday home that is fully furnished and equipped for self-catering) taxable income can be calculated under a simplified deduction scheme. This scheme allows a deduction of 50 percent of gross income to be claimed, instead of the actual deductions. This is the default taxation scheme.
24. The primary purpose of this scheme is to simplify the taxation of furnished lettings. No expenses need be demonstrated, no accounts are required and no separate tax forms need be prepared. However, this regime always assumes a fixed taxable profit and never a lower profit or a loss.
25. If income is above the threshold, the owner is required to calculate actual expenditure related to the letting in order to calculate taxable income. If income falls below the threshold, the owner can still opt to calculate actual expenditure, however the owner is required to calculate actual expenditure for a minimum of two years. This option can be beneficial if a high level of expenses is expected.
26. If the property concerned is unfurnished, and the income from the property is below €15,000, the default scheme declares 70 percent of income is taxable. If income falls above this threshold the owner can opt to work out actual expenditure in order to calculate taxable income. Therefore, if actual expenditure is greater than 30 percent of income it is beneficial to work out actual expenditure.
9 The current legislation only applies to properties situated in the UK; it was extended on a temporary non-statuary basis to EEA properties to ensure compliance with EU law. It will apply to EEA properties on a statuary basis from 6 April 2012 for individuals, and 1 April 2012 for companies.