Residential Rental Losses - Now Ring-Fenced!
On 26 June 2019, the Government quietly passed the bill that now ring-fences residential rental property losses, which means losses generated from residential property investments can no longer be offset against other income earned by taxpayers.
The obscurely named “Taxation (Annual Rates for 2019–20, GST Offshore Supplier Registration, and Remedial Matters) Bill rules retrospectively apply from 1 April 2019. As a result, any residential property losses generated during the 2020 income tax year (1 April 2019 to 31 March 2020 for most investors) and beyond will be quarantined in the same way as Mixed Use Asset losses are treated.
Future losses can only be offset against other residential rental profits within the investor’s portfolio, or against taxable gains from the sale of property (capture by the intention test, bright-line test or property trade rules – subject to specific conditions).
Quarantined losses not utilised, will be carried forward to be used in future years, though the retention of the losses will be subject to rules around company shareholder and partnership continuity rules, where changes of shareholders/partners could result in the quarantined losses being forfeited.
These rules will apply to individuals, partnerships, trusts, look through companies (LTC) and closely-held companies alike.
With this in mind, any investors who have relied on income tax refunds generated through residential rental losses need to consider the impact on their future cash flow; this was the key reason behind our recommendation that property investors avoid applying for 2020 special tax codes.
For those clients that pay provisional tax or are close to the $2,500 residual income tax threshold, the change to provisional tax could be significant for the 2021 income tax year, and also result in a terminal tax liability for the 2020 income tax year.
On face value, the rules would tend to suggest that restructuring property through LTC’s and Trusts, would no longer provide any benefit to investors. However, restructuring debt against income generating assets will always provide benefits to taxpayers, though the cash flow benefits may take a little longer to be realised under these ring- fencing rules.
For clients that operate a business or own other investments, there are potential opportunities to reassess their operating structures to mitigate some of the impacts associated with ring-fencing rental losses.
Given the rules are now in place, if you have any questions around how the rules impact you directly, or you wish to discuss whether restructuring would be beneficial, then please contact Ben and the team at All Accounted For to arrange a time to discuss your implications (firstname.lastname@example.org or 04-970-1182).