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The Government introduced the Loss Carry-back Scheme as part of the recent Covid-19 tax relief package.
This scheme enables businesses that expect to make a loss in either the 2020 or 2021 tax years to carry-back that loss to the immediately prior year to offset against the profits that were made.
This results in a cash injection back into the business, with a refund of the tax paid in that earlier year.
As an initiative, this is one to be applauded as it generally could be great news for many businesses incurring losses due to Covid-19 impacts right now in terms of injecting cash into their business.
But not all.
Through design, residential landlords are specifically excluded from the Loss Carry-back regime.
This seems a little egregious, especially as there is a swell of political (including from the top) and community sentiment that landlords should also be supporting struggling tenants by way of rental reductions.
Most residential landlords are simply middle New Zealanders, trying to get ahead, and many have gone beyond what could ever be expected to support their respective tenants in these tough times. Unfortunately, media coverage is restricted to the few bad stories or the unreasonable tenant requests rejected.
If they reduce the rents as many have done, their expenses continue.
Even with a loan principal ‘‘holiday’’ on the mortgage, interest, rates, insurance and repairs/maintenance costs all continue, meaning that many run the likelihood of net losses for the year.
This exclusion for residential landlords benefitting from the Loss Carry-back Scheme comes about because residential property landlords are subject to the ring fencing of residential rental deductions, a mechanism brought in to discourage residential property investment, to soften the property market, from the 2019/2020 tax year.
Accordingly, instead of excess deductions from residential rentals being used to reduce the tax liability of other sources of income such as business income, salary, wages, interest, or dividends (or carried back to a prior year), when the rental expenses exceed the rental income derived, the deduction is limited to the extent of the income.
In summary, where the expenses exceed the income, a deduction is denied for the excess expenses in that that tax year and are carried forward to the next.
This continues each year until the rental income exceeds the rental expenses, at which point the deduction is permitted.
Any other business type could possibly carry those losses back to the prior year, and potentially get a tax refund for the 2020 year.
In my view, this distinction is without solid economic foundation but another example of the myopia the Government has demonstrated around landlords and residential property investing, alongside other measures like the 5-year Brightline Test.
At a time when more housing is needed as rents rise, and we need more investment in housing supply (in addition to the 8,000 houses the Government announced in the budget) to meet demand and generate economic activity for the building industry, residential landlords should have the same opportunity to survive as other struggling businesses, and then be encouraged to grow and invest.
I would also contend that the 5-year Brightline rule itself should be reduced to the original 2 years, so as to properly focus on speculators, not Ma and Pa landlords who get inadvertently caught out.
- Scott Mason is a tax specialist and Managing Partner at Findex in Dunedin.