Many of our clients are asking what’s on offer from the various parties for the 2023 election, so I thought it would be useful to recap the tax changes made by Labour in their past two terms, and then canvass the offerings from political parties to reverse their changes.

As a disclaimer, I’m not a fan of this government’s tax policy on residential landlords (being a landlord myself), so if you are left-leaning investor you might be better to move on to the next article.

When Labour astonished investors with bombshell tax changes in early 2021, I said I would remind our clients and readers of the “about face” the government did on tax policy in the run-up to the 2023 election. Let’s not forget Grant Robertson swore black and blue the only tax change would be an increase in the top marginal rate to 39 per cent.

He said “no new taxes” but liberally interpreted that to mean he could make huge changes to existing taxes without campaigning on them transparently. He also very clearly said he would not extend the bright-line period, then he doubled it to 10 years.

‘SET IN STONE’

The most astonishing thing to me about the bright-line extension and interest non-deduction rule changes was the robust promise “set in stone” from Grant Robertson in late 2020. You may recall the quite pointed Heather du Plessis-Allan interview, where she asked Robertson three times to guarantee no tax changes other than increasing the marginal tax rate to 39 per cent. Each time she asked he said “no”; he was emphatic there would be no other tax changes and he certainly would not extend the bright-line period. He made the same promise throughout the 2020 election.

I actually took him at his word; it never occurred to me he would back flip and make radical tax changes. More fool me (and others who take this politician at his word). Within 100 working days of taking office, Robertson implemented arguably the most far-reaching changes affecting residential property taxes in the history of New Zealand. In fact, Labour introduced the most radical new tax policy I’ve seen in my career as a chartered accountant.

TAX RECAP

You will recall that in addition to Robertson demonising property investors with labels such as “tax evaders” and “speculators”, Labour set about changing tax policy to specifically target residential property investors who are, of course, predominantly ordinary “mum and dad” investors. These changes have included:

1. Loss ring-fencing rules: introduced with effect from April 1, 2019 for the 2020 financial year (during Labour’s first term), preventing the offsetting of tax losses from residential property investment with other sources of income. Where previously (for over 100 years) a rental loss would be allowed to be offset with other business or PAYE income, and a tax refund from rental losses could occur, Labour caused such residential property losses to be quarantined and carried forward (ie no more tax refunds from property losses offset). That was the end of negative gearing.

2. Bright-line rules: Labour extended bright-line from two to five years during their first term, and later to 10 years in their second term. A 10-year bright-line period is best described as a “capital gains tax in drag” or a rifle tax on residential property investors’ capital gains. Labour’s latest 10-year rules exempt new builds (which
remain subject to a five-year bright-line rule), and apply to properties acquired on or after March 27, 2021.

3. Interest non-deduction rules: denying the ability to deduct the largest cost of property ownership as an expense, being the cost of funding. These rules apply from October 2021 and are phased in over four years for property acquired before March 27, 2021. They apply in full for property acquired after this date. The rules exempt new builds for a period of 20 years from such effect, as well as residential properties leased to social housing organisations.

A few thoughts on these rules:

• Every other business of any nature in NZ (including commercial property investors) still get to claim interest as a tax deduction. However, residential property investors now pay tax on the net yield (rent less operating expenses) rather than the net cash flow (rent less operating expenses less interest). This effectively means
residential property investors pay tax on the interest they would otherwise get to deduct.

Consider the residential example in the table below. If a residential property investor has $50,000 of interest cost and has negative cash flow of ($15,000), they now get an $11,500 tax bill to pay. How is hitting someone with $15,000 of negative cash flow with a tax bill of $11,500 fair and equitable?

Remember, the investor also pays tax on the capital gain on the property if they sell within 10 years. And don’t forget new houses with code compliance certificates issued on or after March 27, 2021 don’t have to pay this tax (as new builds are exempt). This is distortionary and crippling to smaller residential landlords who own
second-hand houses, most of whom are small-scale landlords.

• When I say small-scale landlords, according to February 2021 stats from MBIE, 80 per cent of landlords own just one rental property, and 96 per cent own four or less. In other words, nearly six out of seven properties are provided by private landlords and NGOs. This begs the question: who is going to provide the houses if landlords give up? These small-scale landlords are the backbone of nearly 80% of the rental housing market in New Zealand, and they are terribly affected by the interest non-deduction rules. They particularly suffer as interest rates rise, resulting in negative cash flow that is non-deductible. Then they get a massive tax bill; it doesn’t make sense. Nor does it make sense that they cannot get a tax deduction on negative cash flow, due to the effect of loss ring-fencing.

• The unanticipated consequences of this policy are distortionary. Investors start dumping second-hand houses to buy new ones, or building new houses, or preferring social housing due to the tax break. People are literally thrown out of their long-term tenancies because of tax changes or they lose their house to a community housing provider (CHP) tenant because the landlord gets to deduct interest if they lease their property to a CHP.

• There is no symmetry in the treatment of interest deductibility with other asset classes, including commercial property. Good tax policy is typically neutral in the way it applies to all asset classes and entities. But this government doesn’t like residential landlords one bit, so they ignore this and distort the property economy
with rifle taxes.

CAPITAL GAINS TAX

I’m speculating here, but Labour has been clear in their messaging that while they want to see a wealth tax or full blown capital gains tax introduced, Jacinda Ardern said it would not happen “while she was prime minister”. Well folks, she is no longer PM, and if Labour gets a third term I would bet my last dollar on a wealth tax emerging. But just as interest non-deduction rules and bright-line rules are back-door capital gains taxes with different labels, I’m sure they will have a different label for a new wealth tax.

We have also heard through the traps that Labour is contemplating increasing marginal tax rates on high income earners. Mike Hosking, among others, was talking about it on radio. It’s all rumours and could be false, but I encourage you to think ahead about how this country is going to pay for the costs that have been racked up in the last six years, and who will pay for the increasing public expenditure from a well-meaning but very fiscally loose Labour-led government.

PARTIES’ POSITIONS

On the right is a quick precis of the current stated position from the left and right-leaning political parties. I asked New Zealand First for their policy, but they had not responded at time of writing.

I’ll keep you updated if these policy positions change later this year.

ACT seem to be the most friendly to property investors’ tax plight; they get a B+.

ROUGH RIDE

It has been a rough ride for property investors under Labour. This government is attacking middle NZ with their property tax reforms as it’s ordinary people being hit, not a tax-cheating landed gentry of wealthy property oligarchs (as the government rhetoric in 2021 implied).

Let us not forget the difficult to navigate residential tenancy rules rammed through this term, and the tinkering with LVRs and finance rules under the CCCFA shambles. It will be interesting to see if property tax becomes a significant election issue in the mainstream media for the 2023 election. I doubt it because there is no
sympathy for property investors in the public eye. For residential property investors with debt, we know the interest non-deduction rules are a hot election issue. That’s 50,000-plus annoyed residential investors affected, all of voting age.

It remains to be seen whether Labour talk transparently about tax changes, and especially about wealth taxes. Meanwhile, I am pressing ACT and National for their policy to improve on the loss ring-fencing changes that occurred. Their position on interest non-deduction rules is excellent; these need to be reversed along with the other changes. I will keep you informed as information comes to hand; David Seymour appears sympathetic to the property investors’ plight, and
very responsive to policy queries.

I encourage you to talk to your local National MP about the issue – it’s worth impressing on our political contacts the importance to our part of the community
of these tax changes being reversed.

MORE FROM GRA

For those of you interested in tax and legal structures, check out our blogs at www.gra.co.nz/#gra-blogs. I note we held a particularly popular webinar on Tax and Trust Structures that is trending, which you can watch at https://www.gra.co.nz/seminar-recordings/trusts-and-tax-webinar. For year end tax prepping and latest
tax changes, you might like to have a look at https://www.gra.co.nz/seminar-recordings/year-end-prepping-update-webinar, presented by GRA partners
John Rowe and Anthony Lipscombe.