15 tips to improve interest deductibility and Brightline outcomes

The Labour government’s move to a 10-year Brightline and removal of interest deductibility on existing stock of residential property has forced savvy investors to pivot and seek opportunities wherever they can find them.

Here are 15 of the most valuable pieces of information that might help tip the balance back into your favour when dealing with Labour’s residential property tax grab.

1. When buying a ‘new build’ property, interest is deductible for 20 years – provided the CCC was issued after 27 March 2020. However, to gain a 5-year rather than 10-year Brightline, the acquisition date must be within 12 months of the CCC being issued. If you’re selling a property that has deductibility time remaining on its 20-year clock, you should promote this in your marketing as it’s a big drawcard for investors.
2. The term ‘new build’ doesn’t just mean brand new buildings erected on vacant sections. There are projects relating to existing buildings that can still offer new build outcomes when it comes to interest deductibility and 5-year Brightline. These include:

• Converting commercial to residential,
• Relocating second-hand buildings,
• Converting motels to residential,
• Splitting a single dwelling into two or more legal flats,
• Remediating an earthquake damaged building so it can be removed from the register,
• Re-cladding a leaky building where 75% or more of the cladding is replaced to make it habitable again.

3. Consider pivoting your investment plan to a ‘development for rent or resale’ plan. All interest is deductible when property is developed for retention, rental or resale. This is because gains on the sale of properties developed for resale are, and have always been, taxable.
4. Interest deductibility is determined by the use borrowed money is put to, not the security for the borrowings. This means interest is still deductible if disallowed residential property is mortgaged to provide the security to finance a commercial property investment. And, before you say commercial is outside my reach, remember it can be as simple and inexpensive as a carpark space.
5. Commercial dwellings like boarding houses, lodges and student accommodation sit outside the definition of disallowed residential land. This means they are exempt from the interest deductibility restrictions.
6. When lending money to help children into property, consider putting them or their own trusts on the title of the property they’ll live in. This will ensure they get the main home exemption from Brightline.
7. When a new title emerges from a subdivision, this does not reset Brightline. Brightline is still determined by the acquisition date of the property and the day count runs from when the land was first registered to the buyer – not from when the subdivided title emerges.
8. Restructures motivated by asset protection or estate planning initiatives can offer spinoff interest deductibility improvements. For example, a commercial building in a mixed residential / commercial portfolio could be sold at market value from a ‘look-through’ company to a trust. The trust could borrow the money to buy it from the company and claim all the interest. The look-through company could in turn pay down its debt on disallowed residential property that’s losing its deductibility.
9. Examine the opportunity cost of retaining disallowed residential property. Consider selling a low yielding residential investment to pay down debt – particularly when it costs more than the property is yielding to finance. Doing so will reduce the tax payable by lowering non-deductible interest costs and will improve overall cashflow across the portfolio.
10. Investors with businesses in companies may be able to restructure debt into their companies. They could do this by borrowing money to declare dividends from historical retained profits, or refinancing shareholder loan accounts. This in turn will enable them to reduce debt on their residential investment portfolios. Even if the interest rates are higher, it’s unlikely to be as significant as the advantage of gaining deductibility where it would otherwise be lost.
11. Recent changes have extended rollover relief provisions to include movements of residential property to and from look-through companies and trusts in certain circumstances. This provides greater opportunity to alter property ownership without triggering a Brightline taxing event or reset. However, remember that other disposal consequences such as depreciation recovery will still apply.
12. Despite the main home exemption from Brightline, a home that’s sold within the Brightline period, where it hasn’t been the main home for 12-months or longer during its tenure of ownership, can still attract some Brightline tax. This is important to remember before you decide to move out of your home for a 12-month period or longer.
13. If you have a mixed portfolio of residential and commercial assets and can’t trace your lending to a particular property, you can use a concessionary option to determine deductibility. The win here is that deductibility applies first to the market value of the commercial properties as of 26 March 2021, which is likely to be significantly higher than the cost price.
14. Interest deductibility limitation rules don’t apply to overseas residential property, but Brightline rules do.
15. Finally, while National has pledged to repeal the Brightline extension and restore residential interest deductibility, punting on election outcomes is not a sound basis for tax planning. Legislative change happens slowly and is almost never introduced retrospectively. The best approach is to do your best to plan and deal with the rules as they stand, rather than burying your head in the sand and hoping things will change.