Sellers of residential property in the last year may have got a surprise when logging into MyIR to complete their 2023 tax returns by the 7 July deadline. If Inland Revenue held information suggesting that a property sale during the year might have been taxable under the bright-line rules, the owner’s tax return may have been pre-populated with the property information, including purchase and sale dates.
The bright-line test
The bright-line test was introduced in 2015 to target residential property speculation. It imposes income tax on gains made from selling qualifying residential properties within a specific timeframe (subject to some exceptions including for a person’s main home).
Initially the test covered properties sold within two years of acquisition, and in 2018 the government extended the period to five years.
Then in 2021 it was extended to ten years (or five years for qualifying new builds).
Property owners need to be familiar with these rules and understand which bright-line period applies to them in order to limit any unexpected tax liabilities.
Does the bright-line test apply to you?
Despite its ostensible simplicity – if you buy and sell residential property within the relevant bright-line period and no exemptions apply, the gain on disposal is taxable – the bright-line rules can be incredibly complicated to apply.
We have different bright-line periods and main home exemptions applying depending on when a property was bought, and there have also been recent changes to the rollover relief rules which can apply to allow some tax free transfers of land where these isn’t a change in economic ownership without resetting the bright-line period applying.
Inland Revenue is watching
The extension of the bright-line period from five to ten years means that more residential property transactions are potentially taxable than before.
Inland Revenue uses various measures to identify property sales that may be taxable and to ensure owners accurately report property sales.
Inland Revenue’s compliance activities include:
- Communication: Inland Revenue has been proactively communicating with taxpayers, providing guidance and information about the bright-line test and associated tax obligations.
- Data Matching: Inland Revenue collects and analyses property transaction data from LINZ and compares it to income tax returns filed. The land transfer tax statement completed by both parties to every property transaction includes the IRD numbers of the buyer and seller and requires both parties to indicate whether the property will be, or was, their main home.
This data is being used to pre-populate income tax returns where suspected bright-line sale income has been derived. Around 22% of the 1.7 million land transfer tax statements completed since January 2020 indicated the property was the seller’s main home, leaving a large number of sales potentially subject to tax.
Auditing: Inland Revenue targets property transactions to ensure property owners are complying with their tax obligations. Inland Revenue has conducted over 6,500 property audits in the last 3.5 years and assessed additional tax of over $350 million.
These measures are all aimed at helping property owners get it “right from the start” when it comes to paying tax on their property sales and to encourage voluntary compliance.
It is important that you complete the land transfer tax statements accurately for any purchase or sale of property, and that you carefully review and update if required the details of any pre-populated property sales that Inland Revenue thinks might be taxable.
If you have made any taxable sales that Inland Revenue may not already have information for, these need to be manually added into your tax return.
We may see future changes to the bright-line rules depending on who holds power after the election. In the meantime though, residential property owners need to understand the rules if they are considering buying or selling property.
If you need help determining whether the bright-line rules apply to you, it is recommended you seek professional advice from a tax specialist.