Property Information

a Valuer's take on tax changes

The changes to the taxation system brought to light in the May Budget announcement have been well documented over the past couple of months. Due to have the most impact on property markets are:

• Depreciation removed from buildings with an economic life greater than fifty years
• Goods and Services Tax (GST) to increase to fifteen percent
• Cuts to personal taxation rates

Many are now asking how these changes have affected the residential property market to date, and what will occur after they come into affect later this year.

To answer this we must look at what has happened since the pre-budget announcements were made in January, regarding possible taxation changes. Since then, the residential property market has softened, with limited growth noticed after a six month period of moderate growth in late 2009. This lacklustre market has not been helped by wider uncertainty around what was actually going to be announced in the budget, and when the proposed changes would be implemented.

What has changed post budget announcement?

In a nutshell – nothing.
With some of the changes only set to be implemented on 1 April 2011, the property market remains subdued, with some areas even experiencing negative growth. There have been murmurings that some investors are selling off part of, and in some instances their entire investment portfolio's before the depreciation taxation changes are implemented at the start of the 2011 tax year. There is no evidence that this will occur on any large scale, and some are even talking about good opportunity in the current climate. The reality is probably somewhere in between.

What will happen?

No one can be absolutely certain what will occur in the residential property market over the coming year as we have no notably similar past experiences to give insight. Our top economists have conflicting ideas and theories on what may occur over this time period, adding to uncertainty. However, we can still look at the situation objectively and use our knowledge of property actors to explore some possibilities.

Investors who have highly-geared portfolios (regarding mortgages) will be the most affected with the removal of depreciation from investment properties. To show how a highly geared investment is affected by the depreciation change, an example has been provided below by Tony Marshall, a taxation consultant for WHK in Dunedin.

So the removal of depreciation can have a real impact on investment performance. We must therefore assume that some property investors may continue to sell prior to the April implementation date. The majority of these properties are likely to be in the lower value bracket causing an oversupply of properties marketed for sale. The oversupply of properties, and less demand for investment properties, could see a continuation of existing flat or negative growth over the immediate future in these lower value tiers.

But we still need to remember that there are costs associated with selling and shifting investments and the prospect of capital gain may even linger for some. It is impossible to tell what portion of highly-geared investors will be in this boat, but a mass-exodus seems unlikely at this stage.

The residential rental market itself is set to experience similar levels of demand, but a decrease in the supply of rental accommodation is quite plausible. This would in part be due to the before mentioned investment sellers shifting property onto other markets. So we could see weekly rents increase somewhat, especially given GST rises associated with property maintenance. Various estimates have put a likely rental increase between 1.4% to 6.5% nationally. If values continue to remain flat over this time period, the result will be to increase the gross returns shown by the investment, thus enticing investors back into the market in the future.

When looking at the top end of the market, the increased GST costs associated with building or renovating could have an impact. Some properties may experience immediate value growth reflecting the increased demand for existing dwellings over the additional costs of building a new dwelling.

It is thought that personal tax cuts will only have a small impact on the property market, as lower income earners will only receive slightly more than the cost of the GST increase. This small increase in disposable income is not likely to attract a great number of first home buyers into the property market as a result. Higher income earners are more likely to take action, due to a greater personal tax cut than lower income earners. More disposable income, higher rents forecast and soft investment property prices could well entice some to enter the residential market as investors in the medium term.

To sum up, the bottom end of the market may decline (or at least remain subdued), while the top end of the market is pushed along by the increased costs associated with building. Eventually the market will regain some traction as rents increase, investors are attracted, and the increase in the top end rubs off on to other price tiers.

Uncertain times remain for the residential property market. Tax changes will cause some disturbance at least, but once the market has had time to digest the changes, it will return to some normality.