Much has changed for residential landlords in recent years. From a tax perspective the landscape has changed considerably. For many years negatively geared landlords received a tax refund after mortgage interest deductions were claimed against assessable rental income along with other deductible expenditure. In recent years, this position has changed considerably.

To illustrate we will use the following example:

Rebecca has a modest rental property in Glenfield with a reliable tenant, so she has kept the rental in line with the original agreement. The rental income of $450 per week results in gross annual income of $23,400. Rebecca has an annual mortgage interest expenditure of $25,000 linked to that property. Council rates are $3,000 per annum. Repairs, maintenance and other deductible expenditure amount to $2,000 per annum.

Residential rental refunds

In the income years prior to 1st April 2019, Rebecca would have had a loss of $6,600 for the year. This would have resulted in a tax refund of $2,178 if Rebecca was on the top marginal tax rate from other income, like a salary.

Ringfencing losses

From 1st April 2019 ringfencing rules were introduced and from the 2019/2020 income year Rebecca would not have received a tax refund as those losses could not be offset against her other income. This meant that Rebecca was paying into the mortgage and could not claim the expense not covered by the rent received from the tenant.

Some landlords relied on the refund to reduce the mortgage principal, but many just used it to compensate for the other expenditure that was required in maintaining the property. The ringfencing rules had an impact as this was also the period when the Healthy Homes standards required them to upgrade their rental properties.

Tax on gross rental revenue

The changes being proposed at present by Government are to remove mortgage interest expense as an allowable deduction. Put another way, landlords will no longer be able to claim a full deduction for their mortgage interest paid on a mortgage over a rental property. Deductions will be phased out between 1st October 2021 and 31st March 2025 as follows:

Income year                                              Tax Liability

1st April 2020 – 31st March 2021               100%

1st April 2021 – 30th September 2021      100%

1st October 2021 – 31st March 2022         75%

1st April 2022 – 31st March 2023              75%

1st April 2023 – 31st March 2024              50%

1st April 2024 – 31st March 2025              25%

1st April 2025 onwards                             0%

Of crucial importance is that the sliding scale above only applies to “grand-parented interest”. This is interest on debt funding that was used to purchase a property prior to 27 March 2021. For new mortgages, all interest is disallowed from 1 October 2021. An exception to this rule will probably apply for property developers and those who acquire “new builds”. The details are being finalised at time of print.

Going back to our example above, assuming the interest relates to a mortgage that was taken out prior to March 2021, the reality for Rebecca is that her loss will no longer be ringfenced as the interest expense will no longer be allowed as a deduction.

Instead, Rebecca will start to have a tax liability on the property which will grow year on year as the percentage of interest expense allowed is reduced. The result will look like this:

Date interest incurred                               Percentage claimable

1st April 2020 – 31st March 2021              Loss of $6,600 ringfenced

1st April 2021 – 31st March 2022              Loss of $3,475 ringfenced

1st April 2022 – 31st March 2023             Loss of $350 ringfenced

1st April 2023 – 31st March 2024             Income of $5,900 (tax of $1,947)*

1st April 2024 – 31st March 2025             Income of $12,150 (tax of $4,010)*

1st April 2025 – 31st March 2026             Income of $18,400 (tax of $6,072)*

*Based on individual earning more than $70,000pa but under $180,000pa

**For simplicity of illustration we have not offset carried forward losses.

Rebecca will have an extra cash expense of $6,072 per year that she needs to factor into her cashflow.

Further consequences

There will be many landlords who have never been provisional taxpayers before because of the way the tax rules operated historically. Provisional tax applies to taxpayers when their residual income tax for the previous tax year exceeds $5,000. In our example, Rebecca will be a provisional taxpayer from the 2026/2027 income year.

Provisional tax due dates differ according to whether the landlord uses the AIM method and whether they are GST registered. If neither apply, then the landlord needs to make three provisional tax payments each year. The due dates are generally 28th August, 15 January and 7th May. These payments are made in addition to the end of year payment due on 7th April (if you have a tax agent) or 28th February if not under a tax agent.

If provisional tax is not paid correctly, or on time, then late payment penalties and use of money interest can apply (7% currently).

Seek tax advise if you are not sure, as interest and penalties can pile up quickly.

Article written by Carla Cross (Snr Associate) from Graham Lawrence’s (Director) Team

Phone 09 3097851 Visit: www.bellinghamwallace.co.nz