Foreign Residential Rental Property Tax Rules in New Zealand

The area of law surrounding Foreign Residential Rental property is quite dense and difficult to understand for many. We have tried simplifying the tax obligations of those with foreign rental property.  

All NZ tax residents that own foreign residential rental property should be aware of tax issues arising as a result of the ownership. An individual receiving foreign rental income may be liable to pay tax in both NZ and in the country where the property is located. But first, it is essential to determine whether an individual qualifies as a NZ tax resident.

New Zealand Tax Residency?

The obligations on an individual arising from owning foreign property are determined by tax residency status in NZ. If an individual is not a tax resident it is unlikely that the income generated from foreign rental property will be taxable in NZ. A person is a tax resident in NZ if:

1. They are present in NZ for more than 183 days in 12-month period OR
2. Have a permanent place of abode in NZ (PPOA Test)

It is possible for an individual to be a tax resident of more than one country. In this case, if a DTA (Double Tax Agreement) exists between the countries, it will dictate the taxing rights of each country. If there is no DTA then the individual will likely be taxed in both countries on foreign rental income. In this case the individual may be eligible for foreign tax credits. The rules are a bit different for Transitional Residents. 

What is a Transitional Resident?

This is a special class of residents that qualify for an exemption on certain types of foreign sourced income for a period of time. (48 months)

To qualify as a transitional resident, an individual must:

1. Be a tax Resident
2. Have not been a NZ tax resident in the 10 years proceeding when they have become a resident
3. Have not been a transitional resident before

The residency period lasts around four to five tax years and is dependant the time of arrival in NZ. During this period, an individual is exempt from NRWT and tax on all foreign sourced income except:

• Income from a supply of services
• Income in connection with employment or services performed while the individual is a transitional resident.

Location of a Foreign Investment Property

Now, assuming you are a NZ tax resident, you will next need to look at the location of the investment. Tax accounts are usually prepared in accordance with the foreign countries tax rules. As each country has a unique system, the treatment will differ to that applied in NZ.  The differences can occur due to variances in:

• The basis for determining when income is derived

e.g., whether cash or accrual basis has been used

• Balance dates

e.g., NZ has balance date of 31^st March whereas this is different throughout the world. For example, in Australia, the standard balance date is 30 June, while in the United States it is usually 31 December. A taxpayer can elect to return certain foreign-sourced income and expenses in the New Zealand tax year in which the foreign balance date falls (s EG 1 ITA 2007). They make the election by including the foreign-sourced income and expenses in their income tax return for the New Zealand tax year – no formal election is required. In this case, for NZ purposes the individual can elect to return the foreign income/expenses in the NZ tax year in which the balance date of foreign country falls. This option is only available to those with net foreign income of under $100,000.

• Methods and rates used to convert amounts of income/expense into NZD

e.g. In NZ, these are provided by the Commissioner of IRD instead of using a spot rate.

Now moving onto income, there are 3 types of income that may arise when a NZ tax resident owns a foreign residential rental property:

1. Foreign Rental Income

Unless within the transitional period, an individual is required to pay tax on foreign rental income received. This is required even if you are paying tax on the rental income in the country in which the property is located. An individual in this scenario may be eligible for foreign tax credits.

Deductions can be claimed against this income, but the permitted deductible amounts vary from country to country. Examples of deductions include expenses such as repairs & maintenance and depreciation on chattels in rental property. Depreciation on of land or building is not permitted under NZ law. Interest deduction limitation rules apply. And mixed-use assets have certain rules. If the allowable deductible expenses exceed rental income/gains from sale, then they can be allocated to the next year but only to rental income. This is because residential rental deductions are generally ring fenced. These ring-fencing rules do not apply to property that comes under the mixed-use asset rule. More on ringfencing can be found here.

2. Foreign Income from the Sale of Property

If foreign property is sold, any gains made may be liable to tax under NZ land taxing provisions. This is the case even if the sale is not taxable in the country where the property is located. The relevant legislation is S CB 6 of the ITA which states that when a property sold was bought with the intention of sale or sold within 5 years (or 2 years if before 29 March 2018), the gains made are not taxable in NZ for the period an individual is a transitional resident. If the gains made from the sale are taxable in both NZ as well as the foreign country, the individual may be entitled to a foreign exchange credit. Currently bright line tax is extended to 10 years with certain exemptions.

3. Financial Arrangement Income from Foreign exchange gains

An individual owning foreign rental property is likely to also have a foreign currency loan. This loan meets the requirements of constituting as a financial agreement if fluctuations in the NZD have the impact of varying the amount of interest payable on the loan. When the NZD increases, interest will go down and this has the effect of a gain. If this gain is significant, the individual will be liable for tax on the appropriate amount.

Entitlement to Foreign Tax Credits

As mentioned above, double taxation gives rise to foreign tax credits. Double taxation occurs when the same income is taxed twice. As NZ takes a worldwide income taxation approach, it is likely that those receiving rental incomes from overseas are being taxed in NZ as well as the country of the foreign property. In this scenario, an individual may be eligible for foreign tax credits. An individual is eligible for a credit if the tax on rental income/gain is:

• Covered by a Double Tax Agreement OR
• Allowed directly under subpart LJ of the ITA 2007

If the amount falls under any of the above, a foreign tax credit will be issued to the individual to the year in which the income was incurred.

NRWT (Non-Resident Withholding Tax)

Non-Resident Withholding Tax is a tax held from payments of interest and dividends to foreign investors/lenders. Those with foreign property often also have borrowed a loan amount from a foreign lender. They are required to withhold NRWT from the interest paid to the foreign lender and pay this withheld amount to IRD.

Exceptions to this rule are where the borrowed money is used to carry on a business or where the lender is engaged in business in NZ and so has a branch here.

The above highlights the general key obligations of those owning foreign residential rental incomes. For advice specific to your situation, get in touch with us below.

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