Bright-line nominations – update July 2017
Thankfully common sense has prevailed and Inland Revenue has clarified that where a nomination occurs between associated persons this will not trigger the bright-line test. >
Therefore in the examples below the nomination to a newly formed family trust of Bob would not result in a tax liability to Bob as he is associated with his Trust. Caution should still be taken with nominations that are not to an associated entity and if you have any doubt please contact us to discuss.
The bright-line test and nominations
The bright-line test applies to residential properties purchased on or after 1 October 2015. If you buy and sell a residential property within two years, you will pay tax on the gain you earn from the sale, unless you are selling your family (main) home or another of the exclusions apply.
This test applies regardless of your intention at the time of the purchase.
Generally the two-year period for the bright-line test starts on the date the property transfer is registered with Land Information New Zealand (LINZ). If the property is in another country, it is the date the transfer was registered under that country’s laws.
However different dates apply if you sell the property before your purchase is registered with LINZ a common example of this is a nomination to a party other than the one who signed the original sale and purchase agreement.
What is a nomination?
When an agreement to purchase a property is entered into is common the final purchasing entity or person is sometimes unknown or undecided. The most common example is when an individual enters into a contract to purchase property and later decides, on advice of their lawyer or accountant, to purchase the property in a trust or a company (such as a look through company if it is a rental property). The act of transferring the sale and purchase agreement to this new entity is referred to as a nomination.
For example, Bob signs a sale and purchase agreement for a new holiday home on the 24th of October 2016 in his own name but also “or nominee”. The agreement becomes unconditional on the 1st of December 2016 and with the date of settlement being 1st of February 2017. Unfortunately Bob doesn’t talk to his accountant until mid-January 2017. On the advice of his accountant Bob nominates the purchaser to be a newly formed trust. The Trust is formed on the 21st of January 2017 with a nomination being signed at the same time. The settlement occurs, as planned, on the 1st of February 2017 with the new Trust completing the purchase.
How does a nomination impact the bright-line test?
A completed and effective nomination, for the purposes of the bright-line test, is considered to be a transfer in an interest in land. This means the alternate rules apply for the timing of the bright-line test. Where a transfer in an interest in land occurs within two years of signing a sale and purchase agreement, then that transfer will be subject to the bright-line test. If the property in question is residential land then any increase in value of the property between signing the sale and purchase agreement and the date of nominating a new purchaser will be taxable.
The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. There is no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation
Unfortunately the main home exemption cannot be applied as the property has never been lived in due to the title not passing.
There is a further rule that when a property is subject to the bright-line test than the value of any transfer, including a nomination, will be deemed to occur at market value. It is not possible to simply agree that the value is the same as the purchase price agreed to at the outset. For legal purposes the value under the nomination can be the same as the price agreed with the original seller, but for tax purposes, it will be deemed to be the market value at the time of the nomination.
Going back to our previous example, Bob is a very good negotiator and he managed to agree to purchase the holiday house for $550,000. Due to a hot property market for holiday houses however the market value of the property, as assessed by independent valuation, has risen to $600,000 by the date of nomination. This results in the gain of $50,000 becoming taxable to Bob, even despite there being no realisation of the gain and no stream of cash to pay the tax. Assuming Bob pays tax at the top rate of tax of 33%, this represents a cash cost by the way of tax of $16,500 to Bob for transferring the purchase to an entity he controls.
Is there a fix?
Unfortunately the answer is no. The best advice is to ensure that professional advisers are engaged in the purchase process early so that if a nomination is required it can be made as close to the date of entering the agreement as possible. This will hopefully ensure that there has been no gain in the market value of the property, or if there has it is the minimum amount.
It should also be noted that if the original sale and purchase agreement falls over and the eventual settlement doesn’t occur then any nomination will not be valid and no gain can be realised under the bright-line test.
For further information
If you have further questions or wish to clarify your situation please contact:
(p) 07 889 8850