Mark Withers presents some key tax and financial considerations when selling property.
Selling an investment property can be a smart financial move, but it also comes with tax, lending and planning implications. This article outlines the key issues investors should consider before deciding to exit the property market.
At the recent New Zealand Property Investors Federation conference, I presented a speech dealing with exit strategies from property. While the motivations to exit property can be many and varied, one consistency is that there are tax consequences associated with a decision to sell. Failure to navigate the tax consequences of disposal can leave precious money on the table.
So, what are some of the key considerations associated with selling property?
Depreciation recovery
Back in 2012, the right to depreciate residential buildings was removed, but the obligation to recover accumulated depreciation on disposal still exits. Determining the amount of income and corresponding tax payable as a result of depreciation recovery should be an important consideration when planning a disposal. Income like depreciation recovery can trip you over the provisional tax threshold, which may also require you to estimate provisional income for the following year to avoid the payment of unnecessary provisional tax.
Property developers and traders
Property developers and traders need to recognise that property held on revenue account will also be subject to income tax and GST on disposal. Anybody associated with a property developer, dealer in land or builder will also need to have retained their investment properties for 10 years if income tax is to be avoided on the disposal of tainted property.
Bright-line rules
Bright-line is another consideration. With the bright-line currently reset to two years from July 1, 2024, any sale of residential land within the bright-line period may be subject to income tax under the bright-line rules.
Companies and distributions
Special consideration is needed by investors who operate through a close company arrangement, being a standard company that is neither a qualifying company nor a look-through company. Distributions of funds from capital gains on properties held in close companies can be taxable dividends in the hands of shareholders unless companies are liquidated as part of the in-specie distribution process. Professional advise should be taken before any company funds are distributed by a close company.
Trusts and overseas beneficiaries
Investors with properties in trusts also need to be cognisant of the rules set out in the trust deeds, and decisions of trustees must be recorded by resolution. Special care is needed when beneficiaries reside in countries with capital gains taxes, such as Australia, the UK and the US, as capital distributions from New Zealand trusts can be taxable in the hands of beneficiaries who are resident in these countries.
Banking and lending issues
A common banking challenge is the existence of break penalties on fixed loans. Ideally, disposals are timed to avoid the breaking of fixed loan contracts. However, deductions are generally available for break penalties, even if a property is sold.
Bank securities should also be reviewed, as cross-collateral security arrangements often mean that a lender will not release sale proceeds without a further deduction in lending. The release of funds where banks hold cross-collateral security needs to be negotiated with the lender.
Finally, give some thought to what comes next. What will you do with the proceeds on sale? How will you protect it, and who will provide you with the advice you need beyond property.