IRD proposes tweaking the law to clarify when the bright-line test clock starts ticking for land bought off the plans and land converted from leasehold to freehold

The Inland Revenue Department (IRD) wants the rules around the bright-line test clarified when it comes to land bought off the plans and land converted from leasehold to freehold.

It is proposing a major tax bill before Parliament be amended to confirm when the bright-line clock starts ticking for these sorts of properties.

The test requires someone who sells a residential property within five years of agreeing to buy it to pay income tax on any gains made from the sale. If someone sells their “main home” they don’t need to pay tax.

The IRD wants the law to clarify that the bright-line clock starts ticking from the time someone enters into a contract to buy off the plans, rather than when the first interest in the land is acquired.

So let’s say someone agrees to buy off the plans in 2019. The development is only completed in 2021 and they decide to sell up in 2025.

Even though they sold within five years of a title being issued in 2021, they sold more than five years after they entered into a contract to purchase the land in 2019, so they wouldn’t have to pay tax.

If they sold the property before 2024, they would have to pay tax.

The IRD wants a similar principle to apply to land converted from leasehold to freehold, or in technical terms, leases with perpetual rights of renewal (Glasgow leases) converted to freehold estates.

It says the bright-line clock should start ticking when the leasehold estate is granted, not when the first interest in the freehold estate is acquired.

Like the example above, if someone buys a leasehold property in 2019 that’s converted into freehold in 2021, they would only have to pay tax if they sell up before 2024.

Tax accountant, Terry Baucher of Baucher Consulting, says the IRD’s proposal to address these technical points in the law is good and will benefit investors.

“It is intended to equalise the treatment between off the plan sales of freehold estates and off the plan sales of leasehold estates,” he says.

The IRD’s proposal will come into effect if the Taxation (Annual Rates for 2018–19, Modernising Tax Administration, and Remedial Matters) Bill is tweaked in accordance with its suggestions and is passed in Parliament. The Bill is due to have its second reading.

As an aside, it is worth noting that because the bright-line test was only recently extended from two to five years, the two-year test applies to property purchase agreements entered into between October 1, 2015 and March 28, 2018, whereas the five-year test applies to agreements made after March 29, 2018.

For a more technical explanation of what the IRD is proposing, see page 241 of this report it prepared for the Finance and Expenditure Committee.