The bright-line period is extended to 10 years - What does it mean?

The Government has recently announced an increase to the bright-line period for residential land under the Taxation (Annual Rates for 2020-21, Feasibility Expenditure, and Remedial Matters) Act (“the New Legislation”). The increased ten year period came into force on 27 March 2021.

What is the bright-line test?

Firstly, let’s recap what the bright-line test is. It is a law used to determine if a residential land owner is required to pay tax on any profit of a sale.

The bright-line rule is clearly defined and leaves no room for interpretation. You can think of it as someone drawing a line in the sand. It’s clear when you cross that line. It does not allow for a change in circumstances. For example, illness or a change in financial circumstances.

Key Dates

The 10 year bright-line period

A ten year bright-line period will apply to residential properties acquired from 27 March 2021.

The 5 year bright-line period

The five year bright-line period applies to properties acquired on or after 29 March 2018 until 26 March 2021.

The 2 year bright-line period

The two year bright-line period applies to residential properties acquired between 1 October 2015 and 28 March 2018. Any properties purchased prior to 28 March 2018 will of course no longer be captured.

Bright-line start date

The bright-line period starts from the date of registration of the transfer of title which is generally the settlement date. Therefore, if a registration of the transfer of title (i.e. settlement) did not occur by 27 March 2021, the ten year bright-line period will apply, unless the transitional period below applies.

Transitional Period

There is a transitional period for agreements entered into prior to 27 March 2021, even if settlement occurred after this date. Those who signed agreements during this period may fall within the five year bright-line period. Owners should seek advice from their lawyer or accountant to clarify the bright-line position.

New Builds

The bright-line period for new builds is calculated differently. The bright-line period generally starts the date the agreement is signed (rather than the registration/ settlement date). The start date may be affected by a nomination of another entity to complete the purchase.

The ten year bright-line period is not intended to apply to new builds. It is intended that new builds will remain subject to a five year bright-line period.

It is our understanding that the definition of a “new build” will be subject to consultation later in 2021.

Main home exclusion

If the property being sold is a person’s main home, an exemption to the bright-line test may apply.

The criteria of what constitutes a main home will differ depending on when the property was purchased (or last transferred).

The five year main home rule

If the property was purchased after 29 March 2018 and before 26 March 2021 the five year main home rule will apply, as follows:

• The owner must have lived in the property for at least 50% of the time; and

• The owner must have occupied at least 50% of the property area. For example, if 40% of a property is used as a main home and 60% is rented as a granny flat, the owner will not be entitled to use the main home exclusion if the property is sold within the bright-line period.

The ten year main home rule

If the property was purchased on or after 27 March 2021, the ten year main home rule will apply.

There have been substantial changes to what constitutes a “main home”. A main home exclusion is now applicable when that property has been used as a main home for the entire time that it has been owned. It is important for agents to bring this to the attention of any vendor selling a property within the bright-line period.

If the property was not used as a main home for any continuous period or periods of more than 12 months, the main home exclusion will not apply to that period. The owner will need to pay tax on the portion of profit that relates to that period. This is the ‘change-of-use’ rule.

The IRD has issued guidance that there is a grace period of up to 12 months to give owners some flexibility around moving dates. If an owner has a period of time when they are not living in the property (for any reason at all) they should keep records of these dates as this information will be required by the IRD when they come to sell.

Limitations to main home exclusion

If a person has more than one home, the main dwelling is determined according to which one the person has the “greatest connection to”.

Furthermore, the IRD has the ability to view a person (or an entity) as being a “habitual seller” if there is a regular pattern of acquiring and disposing of residential land which could mean tax is payable on any profit, even if it is the person’s main home.

Main home exemption

It is very important to note that an owner can only claim two main home exemptions in any two year period.

If an owner has already claimed two main home exemptions in that two year period, the owner will not be entitled to use the main home exclusion explained above.

When selling a property within the brightline period, agents need to be aware of this limitation so that you can ensure your clients get appropriate advice to avoid an unexpected tax bill.

Other exemptions to the bright-line rule

There are still other limited circumstances when the bright-line test may not apply, including the following:

• If the property was acquired from a relationship property settlement, there will be roll-over relief for the person who receives the property. There must however be a formal separation agreement signed in order to be eligible for such roll-over relief

• If the property is inherited, it does not matter when the property was originally purchased by the deceased, the brightline period does not apply.

Impact of a change of entity

It is important to note that a change of entity will re-start the bright-line period. For example, a transfer to a family trust, or to a company.

A change of trustees does not mean a change in entity. A change in trustees will not re-start the bright-line period.

What can agents do?

If you are listing a property for sale or are discussing with vendors or purchasers what the changes to the bright-line legislation mean:

1. Ensure you understand the rules about the start date/date of acquisition

2. Ask the vendor when the property was purchased and if there has been a change of entity

3. Obtain a historical title search. This will ensure that you know when your vendor will need to seek further advice about the bright-line legislation

4. Be aware of the differences between the five and ten year main home rules

5. Refer any vendors or purchasers to their legal advisors and/or their accountants for personalised advice about the effect and implications of bright-line legislation.

As always, we would be happy to answer any questions you may have regarding the bright-line legislation.

For more information, visit www.raineycollins.co.nz or email lsmith@raineycollins.co.nz

Lindsey Smith

Senior Registered Legal Executive, Rainey Collins