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Do you or your clients rent out a holiday home? If so, you need to know the new tax rules.

The hot topic in the tax world at the moment is mixed use assets. A mixed used asset is one that is used for both business and private purposes, but is also not actively used for a large part of the financial year. Common examples include holiday homes, boats, etc.

On 17th July 2013 the Tax bill relating to the latest Mixed Used Assets Expenditure rules was passed into law effective from 1st April 2013 onwards for holiday homes and from 1st April 2014 for other assets (ie. boats and aircrafts).

So what are the changes and what does this mean for you and your clients?

The bill is targeted towards holiday homes and this is therefore the focus of this posting. This ruling does not apply to a home office where the area is based on floor area or is a residential property used for long term rental. The asset is usually bought as an “investment”, rented out during peak periods, used for personal use either by the client or friends / family of the client at rates lower than the market rate, and the rest of the time the asset sits there “available for rent”.

In the past, people have been able to claim the period the asset (e.g. holiday home) was still “available for rent” but had no income for that period. The client was able to offset a generally low income with large expenses (typically mortgage interest payments) and then in turn offset personal income tax if the tax structure was set up to take advantage of this (e.g. Sole trader, Partnership or a Look through Company). Clients that have had the benefit of these tax losses in the past will no longer have such benefit.

The new law will now change the way expenses are apportioned on these mixed used assets. The client will no longer be able to claim expenses for the period the asset sits “available for use” i.e. the period not actually being used to generate income. Expenses will only be deductible during the period the asset is actually being used to derive income and the period the asset is not being used (i.e. the “available for use” period) will no longer figure in the calculations. This is a big change from what was previously allowed.

Here are the key changes:
• A key change to note is the period of 62 days. The asset has mixed use if it is used for both personal use and for incoming earning use and it is also not occupied for a period of 62 days or more.

• Expenses will be apportioned using the following formula:
(income earning days) / (Income earning days + private use days)

For example, Sarah used her holiday home for 35 days, rents this out for 68 days and is available for rent (but not occupied) the rest of the year (262 days). Sarah incurrs annual expenses (interest, rates, insurance, etc) totalling $18,000. As the home was unoccupied for a period of more than 62 days, Sarah must apportion the expenses as per the formula (i.e. $ 18000 x 68 / (35 + 68) = $11,883.50).Compare this with the previous claim allowed of $18,000! A big difference in the allowable expense.

• If the gross income from the taxable activity is less than 2% of the rateable value of the property, and the property makes an overall loss, you cannot claim the loss in the current year – it carries forward to the next financial year for the mixed use asset. You cannot use this to offset other income (the loss is effectively ring-fenced).

• If the income received from the business use is less than $4,000, you do not have to declare this rental activity in your income tax return. Basically you don’t declare any income or claim any expenses if this is the case

• You can also choose not to declare this rental activity if you make a loss and the gross income from the rental activity is less than 2% of the rate-able value of the property (in the case of a holiday home)

Please note direct expenses related to the income earning use of the property may be 100% deductible e.g advertising for tenants, or damage caused by tenants during their stay. Mixed used assets will now require extra care and you will need to ask your clients for extra information regarding their asset – especially the days the asset is not occupied.

While the focus has been on holiday homes, this may only be the beginning. The Government has made it clear that this will have wider application for other mixed use assets over time. So if you or your clients are thinking about buying a new holiday home (or private jet!), keep the new mixed use asset legislation in mind.

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