New Zealand doesn’t have capital gains tax, but if you’ve owned your home less than five years and you bought it between 29 March 2018 to 26 March 2021, or less than 10 years if you bought it after 26 March 2021, you could be liable for an ‘income tax’ on any gain you have made in that time, even if it is your family home.
Understanding the ‘bright-line’ property rule, as well as the recent clarifications from the Inland Revenue on exemptions on this rule, is key. Unfortunately, it’s not as simple as you might think.
What is the purpose of the ‘bright-line’ property rule?
The purpose of the ‘bright-line’ property rule is to make sure that tax is paid on the financial gains made when property that is bought and sold within short time periods for income. It is like paying tax on other income you might make. The tax also applies to NZ tax residents buying and selling property overseas.
There are, however, some unintended consequences of the ‘bright-line’ tax rule and it’s important that you understand how these might affect you, even if the property you are selling is your main home.
Exemption from the ‘bright-line’ property rule
Since the idea of the ‘bright-line’ property rule was to ensure tax is paid where the property is being sold for income, it makes sense that it does not apply to your ‘main home’. However, be warned – there are exceptions to the exemption!
In order to qualify your home as a ‘main home’ there are rules! These relate to when you purchased the property, who purchased the property, how you have used the property and how long you’ve used it for. For example, if you leave the property vacant for a period, it’s not your main home during that time.
Below are a few things to be aware of that might mean the exemption doesn’t apply. These are a few examples, so it’s important to remember that unless the people on the title have been living 100% of the time (minus holidays) in the home and have used 100% of the land during this time, it’s worth seeking advice on the implications of the ‘bright-line’ test.
If you bought the house between 29 March 2018 to 26 March 2021 and have owned it for less than 5 years, in order to qualify for the ‘main home’ exemption you need to have lived in the house for 50% plus time and used more than 50% of the house and land.
If you bought the house after 26 March 2021, you have to have lived in house for 100% of time, but there’s a grace period of 12 months.
Inheriting property and selling it
There are rules for inheriting property and then selling it. If you inherit property and then sell it, the date of purchase is considered to be the date the original owner bought it. Inland Revenue have clarified that the transfer of ownership to the executors of the will and then the beneficiaries will not be subject to tax. However, if one beneficiary sells their share to another beneficiary, who then goes on to sell the property, that portion would be subject to income tax.
Relationship property
Relationship property agreements are not subject to the bright-line test. If you separate and one person gets the whole house they will not have to pay income tax on the new half of the house they now own if they are still living in it. However, if that person then goes on to sell the property they may be subject to income tax on the half they gained in the separation.
Transfer of ownership
Any transfer of ownership, even between family members, can change the rule for the bright-line test if the property is then sold within the period it would apply. For instance, a transfer from one partner to both, or from trusts back to the original owner.
In these instances, the bright-line test would not apply, so no tax payable, at the time of transfer. However, if the property is then sold, there may be some tax to pay on the portion of the property that was transferred. Transfers from parents to child, for example to help them purchase their first home, however would potentially be subject to tax at the time of transfer.
New builds, sections, and subdivisions
If the property is a new build, a section or includes a subdivision, different rules apply. The bright-line test is based on the time that you purchased the land and not on the date the title is issued, even if there is no house on the property at the time of purchase. Therefore, you need to include the time you weren’t able to live at the property, because there was no house, in your calculation for the ‘bright-line’ test.
Jointly owned homes
If you have a jointly owned home, both parties must be able to call it their main home for the exemption to apply. For instance, if one owner lives in the home, and the other lives somewhere else, in the event of a sale of the property the ‘main home’ exemption would not apply to half the property.
Owning two properties
It’s also important to note that you have to be able to call the property your main home for it to receive the exemption. This means that a second property, for example a ski chalet, even if it’s not rented and is used solely by the people who own it, will not receive the exemption.
Final thoughts
The rules of the bright-line test can be complicated and since this is income from a gain made in the sale of a property, it can be a significant amount of money. Our recommendation is that unless it’s a very straight forward ‘main home’ exemption, you should seek advice.
At McClean and Co we are happy to discuss property tax and the bright-line test. Get in touch.
