How you could fall foul of new housing tax rules

The IRD is forecasting it will collect around $6.20 for every dollar invested in its property compliance programme. Photo: Getty.

Just because you rented out your investment property doesn't absolve you from paying tax, says the Inland Revenue Department in a summary of commonly made mistakes by non-professional property investors when it comes to their tax liability.

Even if you sell it after the two-year "bright line" test to be imposed from October 1, and announced yesterday by Prime Minister John Key, the IRD's Property Compliance Programme investigators can come after you if it was always your intention to sell for a swift gain rather than hold the property.

The bright line test and requirements that foreign buyers have IRD numbers and New Zealand bank accounts are the government's latest attempt to stem rampant house price inflation in Auckland.

The announcements amount to a tightening of existing law that counts the proceeds from trading in property as personal income rather than a capital gain, and is therefore taxable, while adding new requirements for foreign investors.

None of the changes are retrospective. All will apply from October 1.

However, IRD's Property Compliance Programme is already very busy.

It estimates it will assess undeclared tax of $56.6 million this year against a target of $45 million after Budget 2010 voted a four-year $33 million funding package for chasing property tax compliance.

The government is forecasting the PCP will assess around $84 million of extra tax a year following the addition of $29 million in extra funding over the next five years, taking total spending on property compliance activities to $62 million over the next five years.

That implies the IRD won't have quite as much success as its phenomenal rate of return in the current four-year period, where a dollar spent on compliance has netted $7.80 in unpaid tax.

Over the next five years, the IRD is forecasting it will collect around $6.20 for every dollar spent on the PCP.

In theory, the PCP applies all over the country, but in emailed answers to questions from BusinessDesk about the existing law last month, IRD said "there are natural hot spots of activity such as Auckland and areas of the South Island which receive a more intense focus from speculators and therefore Inland Revenue's Property Compliance Programme.

The department listed several common misconceptions and ruses that can get both professional and hobbyist or one-off residential property investors into hot water.

They include:

• "We often deal with people who buy a property in a hot-spot area, with the idea of renting it out for a short period and then selling it.
"Sometimes these people mistake the gain made as capital in nature when in fact due to the intention of resale from the outset the profit is taxable."

• "People who buy properties to renovate and sell are sometimes unaware the profits made from such sales are generally taxable;"

• "We look at new developments to identify speculative trading in those developments, an example includes land and building packages purchased and then quickly sold on upon completion, some as many as three times in the first year".

• "We look at GST refunds where no taxable activity has taken place and look into incorrect application of the compulsory GST zero-rating rules for land transactions."

• "We also monitor properties which have been the subject of historical GST claims to ensure these are treated correctly when sold."

The PCP investigates property transactions including: property development and speculation; residential investments that cross into property dealing; off-the-plan sales and land banking. It focuses on "ensuring people speculating or trading in residential property are meeting their taxation obligations."

"This includes everything from one off speculative transactions or those developing a pattern of dealing," IRD says.

The PCP's results over the last four years, which have involved monitoring as many as 28,000 property transactions, have been improving since the last major funding boost for investigations in 2011.

In 2012, Interest.co.nz quoted an anonymous professional property investor who had contact with PCP investigators, whose presence was being widely noticed by then, saying: "We are preparing for the next property boom."