Chapter 1 – Background
1.1 As part of the Government’s updated tax policy work programme, officials are reviewing the current land rules, particularly in relation to investment property and speculators, land banking, and vacant land. The objective is to recommend ways to improve the efficient use of land, and ensure that the current tax settings are fair, balanced, and encourage and support productive investment.
1.2 One of the issues being considered is the rules for the deductibility of holding costs for land that is taxable on sale and is used privately (in whole or in part) while it is held. For example, this will arise where a bach or second home is sold within five years so that the gain from the sale is taxable under the bright-line test. This will also arise where a person regularly purchases properties to renovate and sell, and lives in the properties while they own them.
The issues
1.3 Holding costs are costs such as interest, rates, insurance, and repairs and maintenance expenditure that are incurred as a result of owning land. It is generally accepted that, to the extent that land is used to earn taxable income, holding costs are deductible. So, if a person owns a rental property, holding costs are deductible in full (subject to the new rental ring-fencing rules) because those costs relate to the taxable rental income. Equally, if land is held by a land dealer, holding costs are deductible in full because those costs relate to the taxable income from the sale of the land.
1.4 However, our tax system does not allow deductions for expenditure to the extent that it is private or domestic in nature. This is known as the private limitation. This means that holding costs relating to a person’s main home are not deductible.
1.5 While the law is relatively clear about the deductibility of holding costs where land is used solely for either income-earning or private use, the law is currently unclear about the treatment of holding costs where they relate to land that is subject to income tax on sale and is used privately while it is held. This consultation document considers this issue.
1.6 In determining the correct treatment for the deductibility of holding costs, this consultation document considers the following issues:
- the extent to which holding costs should be deductible where land is subject to income tax on sale and is used privately, in whole or in part, while it is held; and
- whether periods of vacancy should be treated as periods of either private use or income earning use.
1.7 This consultation document also proposes the following technical amendments to bring the legislation into line with established practice, to ensure that:
- costs of acquisition and improvements to land are deductible where land is taxable on sale under the bright-line test or the various 10-year rules, despite there being no knowledge that the land sale was going to be taxable when the expenditure was incurred; and
- the provision that allows a deduction for the costs of acquisition and improvements[1] overrides the private limitation so that the whole of those costs are deductible even if the land is used privately.
1.8 These proposed amendments are discussed in more detail in chapters 4 and 5.
1.9 These issues have arisen as a result of the introduction of the bright-line test, which brings more privately used land into the tax base. However, they can also arise in relation to land that is taxed under the other land sales rules. The proposals in this document are intended to apply to land taxed under the bright-line test and to land that is taxed under any of the other land sales rules.
Summary
Deductibility of holding costs for private use periods
1.10 This consultation document considers three options for the deductibility of holding costs for land subject to income tax on sale that is used privately. These options are:
- apportioning the holding costs between the taxable gain on sale and the private use of the land while it is held;
- allowing deductions for all holding costs, even though there is private use; and
- denying deductions for all holding costs for periods of private use.
1.11 These options are discussed in more detail in chapter 2.
1.12 While an apportionment approach would arguably be the most accurate option, it would not be consistent with other areas of New Zealand’s tax law where no apportionment is required. Most obviously, holding costs for rental properties are fully deductible (subject to the new rental ring-fencing rules) even though those costs also often relate to a non-taxable capital gain.
1.13 Therefore, officials’ current view is that denying deductions for all holding costs for periods of private use would be the best option.
Treatment of periods of vacancy
1.14 This consultation document also considers the correct tax treatment of holding costs relating to land that is not actively used and is taxable on sale. This is necessary to decide whether unused or vacant land should be treated as being used privately or for income earning purposes when determining deductibility. This is discussed in more detail in chapter 3.
1.15 Officials propose that the treatment of periods of vacancy as either private or income-earning use should be based on the other uses of the land throughout the period of ownership.
How to make a submission
1.16 Officials invite submissions on the proposed changes and points raised in this consultation document.
1.17 Send your submission to [email protected] with “Holding costs for privately used land that is taxable on sale” in the subject line.
1.18 Alternatively, submissions may be posted to:
Holding costs for privately used land that is taxable on sale
C/- Deputy Commissioner, Policy and Strategy
Inland Revenue Department
PO Box 2198
Wellington 6140
1.19 The closing date for submissions is 1 November 2019.
1.20 Submissions should include a brief summary of major points and recommendations. They should also indicate whether it is acceptable for Inland Revenue officials to contact submitters to discuss the points raised, if required.
1.21 Submissions may be the subject of a request under the Official Information Act 1982, which may result in their release. The withholding of particular submissions, or parts of submissions, on the grounds of privacy, or commercial sensitivity, or for any other reason, will be determined in accordance with that Act. Those making a submission who consider that there is any part of it that should properly be withheld under the Act should clearly indicate this.