Confusion still remains around bright-line changes

In March last year the Government announced an extension of the bright-line test to 10 years in an effort to curb speculative demand by property investors. But what they failed to do was explain how the changes would apply. Now here we are 10 months on and confusion still remains.

The bright-line test comes into play if a residential property is sold within a set period after being purchased. Income tax is paid on any profit made due to the property increasing in value. If the property is a family’s main home for the entire time they own it, the property is exempt, as are new builds.

Extending the bright-line test was just another tax policy which was never going to have an impact on house prices. However, it has hit many Kiwis who aren’t speculators.

At the time, Treasury warned that the increase could negatively affect renters who don’t want to or can’t afford to purchase their own home. Typically, this is lower income households who are disproportionately younger people, Māori and Pacific peoples.

Tax experts also warned of other side-effects of the bright-line extension, including lock-in effects, whereby investors would hold on to their property for a minimum of 10 years rather than selling earlier; and long-run supply issues, which could result in fewer houses being built in the long term. All of these could potentially increase rents.

Apart from just extending the bright-line test, many people may not be aware that the Government also changed how the bright-line test is calculated. Previously it was an ‘all or nothing’ approach. If you lived in a property for more than half the time you owned it then it was deemed to be your main home, and the bright-line test wouldn’t apply.

But the issue for the Government was that extending the test meant that the line became pretty meaningless. Instead, they opted to apportion the bright-line test. It works like this: if you own a property for eight years and live in it for less than seven, when you sell it you pay tax on the profit made – a capital gains tax, in other words – for the period that you didn’t live in it.

But this method opens up a massive can of worms which the IRD still hasn’t sorted out. Now we have a plethora of odd situations and loopholes. For example, if a soldier is on deployment overseas for over a year and rents out their New Zealand home while they are away, they will pay a capital gains tax if they sell it. If a grandparent moves into a rest home, but their property doesn’t get sold for over a year, the sale of the property will incur a capital gains tax. If a member of the NZ Police or a teacher relocates to another city for more than a year for their job and rents their home out, they too will incur a capital gains tax if they sell it.

It gets worse. The bright-line test comes into play every time the ownership structure of a property changes. For example, if a parent goes 50/50 on a deposit with their child, and then five years later the child buys out the parent’s share, not only does the parent have to pay a capital gains tax on the increase in value, but the child’s bright-line period resets to zero years, and they would therefore have to hold onto the property for another 10 years, otherwise they will have to pay a capital gains tax if they sell it.

This bright-line test change has caused numerous issues and IRD is nowhere to be found when it comes to solving them. There is still confusion, and many people who are not speculators are going to be caught out by this capital gains tax in disguise.

When the Government promised no new taxes during the last election, they lied. Instead, they have introduced complex ways to increase their tax take from ordinary New Zealanders.