Quote:
Originally Posted by ENP
What are all the tax breaks of real estate? (sorry I'm a newbie). Basically the ones I'm confused about is people who make a loss from their properties and write it off from the tax from their job?
How does this work?
And is another way to pay less tax just write off the loan interest and depreciate the house as an asset?
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1) ENP there are not tax breaks for realestate that are not also available to any other business, and tomorrow when John Key has his say, we will find out if there are going to be tax disadvantages to realestate and favouritism to some other type of Business, which will create even more distortions & inequities.
2) basic premis of income offsetting is as follows:
Business/ property generates some income (sales/ rent)
There are real costs involved in creating that income (materials, finance,labour)
ALL businesses are allowed to offset the costs of creating the income against the income and hopefully make a profit.
In practice, when starting up a business, then initial costs take a couple of years to recover before any profit is made.
With realestate, the numbers tend to be much bigger so will often take longer than 2 years (very much dependant on interest rates) before the rental income covers the costs (interest, rates, insurance )
Thus for a number of years, it is likely that a business/property owner will have to fund the Business/property by putting in their own cash to pay for the loss- the difference between the income & the expenses. This is what most people refer to as negative gearing & it doesn't just occur with property.
If the Business / property is owned in their own name, or in an LAQC, this loss can be offset against the owners Gross (pre tax ) income (ie as an expense), which results in them being liable to pay less tax on their pre tax income but the correct amount on their true after expenses income.
eg if they earn $70k from their job, but the business/property loses $10k (eg costs of $30k & rent of 20k), then their income is reduced to $60k, typically saving 30% of the loss in tax ie $3300
If they lose so much that it is more than their other income, there is no tax refund, but the loss is carried forward until next year or until they start making a profit. ie if you didn't pay the tax, you don't get any back !
If the property is cash positive, ie the rent coming in is higher than expenses (which is where everyone ultimately wants to get to) then just like any other business, that profit adds to the owners income & is taxed at their normal rate (personal, the company rate or Trust rate, depending upon the ownership structure.)
Then there is Depreciation, which non investers seem to see as a free rebate, but which is in fact just a reflection of the loss of value of an item over time.
eg carpets are depreciated at 20% because expected life is only 5 years, after which they cost a lump sum to replace, so until now the IRD has prefered to see that 20% loss accounted for each year rather than 100% every 5 years. Same happens with business machinery.
Some inexperienced property owners think that if they are on the positive side once depreciation is included (it is counted as another cost) then they have made a profit, but they are in fact deluding themselves, because the depreciation is really just a short term loan until such time as it needs to be spent- eg carpets have to be replaced. A business/property is not making a profit until income exceeds ALL expenses, which includes depreciation.
3) in answer to your question :"And is another way to pay less tax just write off the loan interest and depreciate the house as an asset?"
There is no "JUST" anything. Property Investment is a business, whether that is 1 property or 100.
There are specific rules that apply to what is counted as an expense and what is counted as income and what is taxable and at what rate different items can be depreciated.
In the end, the same as any other business, income less expenses = profit, which is taxable.
p.s. All the above relates to Investment property/ business, it does not apply to the average owner occupied house. (unless you have tenants/ borders, in which case various pro rata proportions are applied to the tenant parts- there is no claiming for the personal parts)
How Does Tax Work With Rental Properties?
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