An increasing number of property investors are steering away from the traditional landlord model and favouring short term accommodation in the ‘sharing economy’.
The returns certainly appear more attractive than your standard residential tenancy arrangement, but I have recently seen a number of situations which have created significant unintended complications from an unlikely source…GST.
But I thought GST didn’t affect residential property?
Correct. But the moment you start to use the property less like a residential dwelling, and more like a serviced apartment, motel or other types of short term accommodation, the problems can start to compound. GST does of course apply to the provision of accommodation in ‘commercial dwellings’ and if the income generated from this activity exceeds the registration threshold (currently $60k), then you have no choice but to register for GST.
Consider a property owner that owns two three-bedroom central city apartments. Current annual residential rental income for both properties is $62k. However, the decision was made to increase this return by renting them on a short term basis – now the annual income from these properties is $93k. The increased gross revenue is a superb result, but as the GST threshold has been breached, the owner has an obligation to register and account for GST. What does this mean for them?
- GST must be returned on all income generated. On $93k that is approximately $12k.
- GST can be recovered on all costs incurred (those that are subject to GST)
- There may be the ability to recover GST on the purchase price of the property (if purchased from an unrelated person). This claim will be based on the original cost and staged over a period of time (usually about two years) depending on specific circumstances
- Any subsequent sale of the property will be subject to GST (think of it as a 15% capital gains tax)
- Ongoing GST compliance responsibilities
- There is also the recent introduction of the ‘bed tax’ in Auckland which can be up to $6,771 per annum depending on the location of the property and the number of nights it is let out. There is no tax for the first 28 nights, and then:
There is of course then the commission payable to Airbnb not to mention the ongoing management of the properties, cleaning, laundry etc and whether you will pay someone to do this for you or opt for the self-manage option.
Even if the rental income from the short term accommodation falls below $60k, there are still instances where GST can be problematic and create unintended consequences. A recent situation I came across involved a person purchasing a beach house in their family trust. To assist with ongoing costs they periodically rented out the bach through Bookabach for about 30 nights of the year @ $400 per night. The complication with this particular situation was that the family trust was already GST registered as they owned a separate commercial property, meaning that the bach rental activity was inadvertently pulled into the GST net.
As the bach would be a ‘mixed use asset’ it is subject to periodic adjustments for GST purposes based on how the property was actually used. For example, say the bach cost $1,150,000 and was rented out for 30 nights, used personally for 30 nights and remains unused for the balance of the year. This would allow 50% of the GST component to be recovered – in this case $75k, a nice cash injection for sure.
However in the next year, the bach is only rented for 10 nights but used personally for 50 nights. This means that over this two year period, the bach has been used to generate income for 40 of the 120 nights that it has been used – this equates to 33%. As 50% of the GST has already been claimed, 17% must be repaid ($25,005). These adjustments are required annually and can swing wildly depending on actual use which in turn can create significant cash consequences for the owner.
When the bach is sold in the future, the full sale price will also be subject to GST after adjusting for GST claims previously made. Alternatively, if the rental activity stops this will also trigger a GST repayment event that would create further cashflow pressures.
This all equates to increased compliance, potential wild cashflow swings and the heightened possibility of taking incorrect tax positions.
How a property is used can have significant tax implications. Acquiring a property with the intention of using it for short term accommodation can, in some instances, be a useful strategy, because if it is bought from a non-registered GST vendor, you can use the upfront GST refund to help fund the acquisition. But this approach does come with increased complications and compliance responsibilities.
Before any decisions are made, be sure to run the numbers to understand what your real returns look like when comparing classic residential rental with short term letting. We know Inland Revenue are actively focusing on this area, so be sure to obtain advice before you make any investment decisions to mitigate your risk.